Airline Competition: The Average Number of Competitors in Markets Serving the Majority of Passengers Has Changed Little in Recent Years, but Stakeholders Voice Concerns about Competition
Published: 2014-06-11T00:00:00

Fast Facts:

Highlights:
section_title: Why GAO Did This Study
paragraphs: Since 2007, there have been four major airline mergers. As a result of this consolidation, about 85 percent of passengers in the U.S. flew on four domestic airlines in 2013. Certain industry observers have raised concerns that consolidation could have adverse effects on airline competition, such as higher airfares and reduced service. Others argue that consumers stand to benefit from recent changes in the industry as profitable airlines reinvest in new planes and expand their networks.
To assist Congress in overseeing changes in the airline industry, GAO was asked to examine the state of competition in the domestic passenger airline industry. This report addresses (1) changes to the financial health of the U.S. airline industry since 2007; (2) changes to the structure of the market since 2007; (3) how consumers have been affected by these changes; and (4) views of stakeholders on the key challenges to airline competition and actions the federal government could take to address these challenges.
GAO analyzed airline financial data reported to DOT, as well as DOT passenger itinerary data from 2007 through 2012, the latest year available. GAO interviewed DOT and DOJ officials and 26 stakeholders, selected based on prior work and their expertise in the field, from organizations in sectors such as academia, airlines, consumer advocacy, and finance. Their views are not generalizable, but provide perspectives on a range of competition issues. Both DOJ and DOT provided technical comments on a draft of this report, which were incorporated as appropriate.
section_title: What GAO Found
paragraphs: The U.S. passenger airline industry has returned to profitability following the recent economic recession. From 2007 through 2012, the industry generated approximately $21.7 billion in operating profits despite losing about $5.6 billion in 2008. U.S. airlines maintained approximately $13 billion in cash reserves in 2012. Growth in revenue has driven industry profits, aided by increased passenger traffic, “capacity restraint,” (i.e., limiting the supply of available seats in relation to the level of demand), and revenue from ancillary fees for checking bags and other services. For example, baggage and reservation change fees collected by U.S. airlines increased from about $1.4 billion in 2007 to $6 billion in 2012. Additionally, unlike prior recoveries when airline capacity growth undermined the ability to charge profitable fares, airlines since 2009 have restrained capacity growth even though demand for air travel has risen with the economic recovery.
In recent years, the average number of competitors has not substantially changed in markets traveled by the majority of passengers, despite several major airline mergers. From 2007 through 2012, the average number of effective competitors (defined as airlines with more than a 5 percent market share) ranged from 4.3 to 4.5 in the markets with the most passengers. During this period, the average number of effective competitors in markets with the fewest passengers decreased slightly from 3.3 to 3 airlines. While these results reflect market changes that have occurred since several airlines merged, the American-US Airways merger occurred after GAO's analysis. The mergers created larger networks and new connections in some markets. Also, low-cost airlines have expanded since 2007, thereby adding new competitors into some larger markets. The structure of the market will continue to evolve as economic conditions change and the recent airline mergers are fully implemented.
In recent years, consumers have experienced higher airfares, additional fees, and fewer flights in certain markets, but also new services and expanded networks. Consumers paid about 4 percent more in real terms, on average, for air travel in 2012 than in 2007, without considering additional fees. The airline industry has reduced flights, especially to smaller airports, and consolidated service at large airports. Airlines have also invested in new aircraft and introduced new services, such as early boarding and entertainment options, in an attempt to differentiate products and increase revenue.
Most airline stakeholders cited barriers to market entry, especially restrictions on takeoff and landing slots at four U.S. airports—Washington, D.C.'s Reagan National and three New York City area airports—as a major challenge to airline competition. Barriers that make airline entry more difficult can hamper competition and enable incumbent firms to charge and maintain higher prices. In addition, access to capital and the size advantages of major airlines present a formidable challenge for any new airline. Stakeholders suggested addressing challenges to competition by increasing capacity at congested airports, enhancing fare transparency, and allowing states a greater role in consumer regulation of airlines. However, stakeholders differed regarding the role of the federal government in addressing competition challenges, in part because changes to the airline industry due to consolidation are ongoing.

section_title: Letter
paragraphs: Since 2000, the U.S. passenger airline industry has faced a number of  major challenges. For example, the industry struggled to recover from the  economic recession that began in early 2001 and the aftermath of the  events of September 11, 2001. While U.S. airlines partially rebounded  from those events, record-high fuel prices, the financial crisis, and  ensuing recession of 2007–2009 presented new challenges and led to  heavy financial losses, particularly for network airlines—the largest  segment of the industry. These challenges contributed to a wave of  bankruptcies and airline consolidation through several major airline  mergers. Since 2007, six domestic network and two low-cost airlines have  consolidated to four major airlines. As a result, there are fewer major  U.S. airlines today than at any time since deregulation in 1978.  Furthermore, approximately 85 percent of U.S. passengers traveled on  American Airlines, Delta Air Lines, Southwest Airlines, or United Airlines  in 2013. Some observers have raised questions about the effects  consolidation will have on airline competition, suggesting that consumers  may ultimately face higher airfares and reduced service. Others argue  that consumers can benefit from recent changes in the industry, as  profitable airlines reinvest in new planes, improve the quality of on-board  services available to passengers, and expand their networks.
The recent merger between American Airlines and US Airways in 2013  prompted further interest in the effects that domestic airline consolidation  has had on competition and consumers. In order to assist Congress with  oversight of competition policy and consumer rights, you asked us to  examine the U.S. airline industry and the impact that recent consolidation  has had on consumers. Specifically, this report describes (1) how the  financial health of the U.S. airline industry has changed since 2007; (2)  changes to the structure of the market since 2007; (3) how consumers  have been affected by changes in the financial health and market  structure of the U.S. airline industry; and (4) what stakeholders believe  are the key challenges to airline competition and actions the federal  government could take to address these challenges.
To address these objectives, we conducted analyses using airline  industry information reported to the Department of Transportation (DOT),  reviewed government and academic studies, and conducted interviews  with knowledgeable individuals. Specifically, to evaluate changes to the  financial health of the domestic airline industry, we analyzed airline  financial data reported to DOT by airlines from 2007 through 2012 as  these were the most recent and complete annual data. We also reviewed  financial studies and conducted interviews with airline representatives,  industry trade associations, industry analysts, and other industry  stakeholders. To evaluate changes in the market structure of the airline  industry, we analyzed data from DOT’s Origin and Destination Survey  from 2007 through 2012, which include fare and itinerary information on  every 10th airline ticket sold; reviewed academic studies assessing  competition; and interviewed DOT officials, airline representatives, and  aviation industry stakeholders. This analysis focused on domestic city- pair markets, which are typically viewed as the basic, relevant market for  airline travel in the U.S. A city-pair market represents air transportation  between two cities. To determine how consumers have been affected by  changes to the airline industry, we assessed DOT data from 2007 through  2012 on service levels to large-, medium-, and small-hub airports, and  nonhub airports, reviewed academic studies, and conducted interviews  with academic and research experts, airline representatives, DOT and  Department of Justice (DOJ) officials, and representatives from travel and  consumer advocacy organizations. To assess the reliability of all DOT  data that we used, we reviewed the quality control procedures applied by  DOT and interviewed officials responsible for collecting these data, and  subsequently determined that the data were sufficiently reliable for our  purposes. Finally, to identify what stakeholders believe are the key  challenges to competition and what actions the federal government could  take to address these challenges, we interviewed six academic and  research experts and representatives from five airlines, five travel and  consumer advocacy organizations, five industry analysts, four industry  trade associations, and one airport authority. We identified and selected  these stakeholders based on our prior work and a literature review of  relevant academic research. Their views should not be used to make  generalizations about the views of all industry stakeholders, but do  provide a range of perspectives on issues affecting the industry. Although  our report focuses on the domestic airline industry, we have included  international issues raised by some stakeholders because they viewed  these issues as having implications for competition in the domestic airline  industry. For more details on our scope and methodology, see appendix I.
We conducted this performance audit from May 2013 through June 2014  in accordance with generally accepted government auditing standards.  Those standards require that we plan and perform the audit to obtain  sufficient, appropriate evidence to provide a reasonable basis for our  findings and conclusions based on our audit objectives. We believe that  the evidence obtained provides a reasonable basis for our findings and  conclusions based on our audit objectives.
subsections: section_title: Background
paragraphs: The passenger airline industry is primarily composed of network, low- cost, and regional airlines. Network airlines were in operation before the  Airline Deregulation Act of 1978 and support large, complex hub-and- spoke operations with thousands of employees and hundreds of aircraft.  These airlines provide service at various fare levels to a wide variety of  domestic and international destinations. Although this study focuses  primarily on domestic competition, network airlines also serve  international destinations. By some estimates, nearly 40 percent of  network airlines’ revenue is from international service, so domestic  service is often aligned with their international networks. Low-cost airlines  generally entered the market after deregulation and tend to operate less  costly point-to-point service using fewer types of aircraft. Low-cost airlines  are just beginning to serve international markets, mostly in the Caribbean  and Latin America. Some airlines, like Allegiant Air and Spirit Airlines, are  referred to as ultra-low-cost because they provide service often to leisure  destinations at discount fares, but with higher optional fees, such as for  carry-on and checked baggage. Regional airlines operate smaller  aircraft—turboprops or regional jets with up to 100 seats—and generally  provide service to smaller communities under capacity purchase  agreements with network airlines. Some regional airlines are owned by a  network airline, while others are independent. Regional airlines operate  about half of all domestic flights and carry about 22 percent of all airline  passengers.
We have previously found that the financial performance of the  deregulated airline industry has been characterized by extremely volatile  earnings. Despite periods of strong growth and earnings, some airlines  have taken advantage of Chapter 11 bankruptcy protection to reorganize  and address financial commitments and/or pursued mergers during times  of substantial financial distress, although in some cases airlines have  entered Chapter 7 bankruptcy proceedings to cease operations. Some  analysts view the industry as inherently volatile due to key demand and  cost characteristics that make it difficult for airlines to quickly reduce  capacity in periods of declining demand. For example, airlines have high  fixed costs and cannot quickly reduce either flight schedules or  employment costs when demand for air travel slows—the latter due in  part to commitments made within collective-bargaining agreements and  other types of contracts and leases. As we have previously noted, the  industry is also highly susceptible to external shocks that decrease  demand, such as those caused by wars, terrorist attacks, health events  such as the SARS epidemic, or fuel price volatility.
The airline industry has experienced considerable merger and acquisition  activity, especially following deregulation in 1978. Since 2000, economic  pressures—including volatile fuel prices, the financial crisis, and ensuing  economic recession of 2007–2009—sparked a wave of consolidation  across the airline industry. For instance, Delta acquired Northwest in  2008, United and Continental merged in 2010, Southwest acquired  AirTran in 2011, and US Airways and American Airlines agreed to merge  in 2013 and received U.S. District Court approval for the merger in April  2014. Figure 1 provides a timeline of mergers and acquisitions for the four  largest surviving domestic airlines—American, Delta, Southwest, and  United—based on the number of passengers served. These four airlines  account for approximately 85 percent of passenger traffic in the United  States in 2013.
A key financial benefit that airlines consider in a merger is the potential for  increased revenues generated through additional demand (generated by  more seamless travel to more destinations), increased market share, and  higher fares on some routes. Airlines also consider cost reductions that  may result from combining complementary assets, reducing or eliminating  duplicative activities and operating costs, and reducing capacity when  merging with or acquiring another airline. For example, the combined  airlines may be able to reduce or eliminate duplicative service, labor, and  operations costs or achieve operational efficiencies by integrating  computer systems and similar airline fleets.
The most recent wave of consolidation has raised new questions about  the state of competition in the industry. Economic theory suggests that  competition is strongest when there are many firms in a market, and no  firm has a substantial share of that market. By contrast, competition may  be weaker when there are only a small number of firms because they  may be able to exercise market power—in general terms, the ability to  raise and maintain prices above those that would be set in a competitive  market. However, if new firms are able to readily enter the market and  effectively compete, they may mitigate the potential anti-competitive  effects of a small number of incumbent firms, thus reducing the  incumbent firms’ market power. The intensity of competition in a market is  not solely driven by the number of firms or the ease of entry, however. In  some cases, competition can be robust in a market with only a few firms  even when entry is difficult.
Although recent mergers have reduced the total number of domestic  airlines, consumers are less directly affected by changes at the national  level than at the individual route level. Consumers purchase seats for air  transportation from one city to another. As such, they are likely to be  more concerned about the number of airlines serving any specific route.  Thus, a “city-pair,” or traffic between two cities, is typically viewed as the  basic relevant market for airline travel, including by DOJ, the agency  charged with reviewing U.S. airline mergers. The relevant market in a  competitive analysis is one in which the good sold by a set of firms is  seen by consumers as having some degree of substitutability, such that if  one firm were to raise its prices, some consumers would see the good  available from other firms as a reasonable substitute and would choose to  buy the good from those other firms. If a person wants to travel from  Seattle to Detroit, for example, a ticket from Seattle-Tacoma International  Airport to Washington Dulles International Airport would not be a  substitute. When there is more than one airport in a metropolitan area for  a consumer to choose from, however, the relevant market analysis could  focus on an “airport-pair,” instead of a city pair. For example, there are  two major airports in the Washington metropolitan area—Washington  Dulles International Airport and Ronald Reagan Washington National  Airport—and a third nearby airport in Baltimore. Some travelers planning  to fly from Seattle to Washington, D.C. could view a ticket to  Baltimore/Washington Thurgood Marshall International Airport as a  reasonable substitute for a ticket to Ronald Reagan Washington National  Airport. In addition, travel can occur through nonstop flights and  connecting hubs. While some travelers (mostly business travelers) may  be willing to pay more for the convenience of nonstop flights and would  view connecting flights as a poor substitute, others might weigh the  potential extra cost of nonstop flights more heavily and choose a less  expensive connecting option.
A starting point for any assessment of competition in an industry is an  evaluation of market structure characteristics, including market  concentration and the number of effective competitors. These are  relevant indicators of the potential degree of competition because, in the  absence of new entry, having fewer competitors may lead to adverse  competitive effects such as higher prices and reduced consumer  choices. We have previously examined a number of these market  structure characteristics, including:  the average number of effective competitors in different segments of  the market;  the types of airlines, including the presence of network and low-cost  airlines, in the market; airline market share of passengers at the route and airport level; and barriers to entry, including practices or conditions that may impede a  firm’s ability to enter a market.
A full competitive market analysis of the domestic airline industry—which  we do not undertake in this report—would include a review of factors  beyond solely market structure, including the likelihood that airlines would  coordinate their behavior in terms of marketing or pricing, as well as the  ease of entry that could negate market power. Additionally, in the case of  a merger analysis, possible benefits related to the merger, such as  enhanced innovation and economic efficiencies, would also be  considered.
Both DOJ and DOT play a role in reviewing airline mergers and  acquisitions. DOJ principally uses the analytical framework established in  the Horizontal Merger Guidelines to analyze whether a proposed merger  or acquisition involving actual or potential competitors raises antitrust  concerns—in other words, whether the proposal will likely create,  enhance, or entrench market power or facilitate its exercise. As part of  its analysis, DOJ uses the Herfindahl-Hirschman Index (HHI) to assess  whether a merger is likely to significantly increase concentration and raise  anti-competitive concerns in the markets (principally, city-pairs) in which  airlines operate. Within the context of its air-carrier certification  responsibilities, DOT also conducts analyses of the merits of any airline  merger and acquisition and submits its views and relevant information in  its possession to DOJ. DOT also provides some essential data—for  example, the airlines’ routes and passenger traffic—that DOJ uses in its  review.
section_title: Increased Revenues and Reduced Costs Have Strengthened the Financial Health of the U.S. Airline Industry
subsections: section_title: The U.S. Airline Industry’s Profitability Has Improved since 2009
paragraphs: Sustained airline profits since 2009 have bolstered the financial health of  the U.S. passenger airline industry. Our analysis of the latest available  financial data reported by airlines to DOT showed that the industry  generated operating profits of approximately $21.7 billion from 2007  through 2012. Although the financial performance of individual airlines  differed, network airlines as a whole generated operating profits of  approximately $12 billion from 2007 through 2012, while low-cost airlines  and regional airlines generated profits of approximately $6.1 billion and  $3.6 billion respectively over the same period. This recovery follows  operating losses of $5.6 billion for the U.S. passenger airline industry as a  whole in 2008, due largely to the economic recession and volatility in the  price of fuel. Figure 2 shows operating profits and losses for U.S.  passenger airlines since 2007.
Recent efforts by certain airlines to return profits to shareholders are  another indication of the industry’s improved financial health since the  economic recession of 2007–2009. For example, Delta Air Lines paid a  quarterly dividend in 2013—its first since 2003—and plans to pay $1  billion in dividends to its shareholders over the next several years. The  airline also announced a program to repurchase $500 million in shares of  its stock by June 2016 and provided $506 million in profit-sharing  bonuses for its employees in February 2014. Industry analysts we spoke  with said that other network airlines would likely follow Delta and  introduce dividends in the near term. Additionally, Southwest—the only  airline offering a share dividend previously—quadrupled its quarterly  dividend in May 2013, increased its share buy-back program, and  announced $228 million in annual profit-sharing with its employees in  2014, an increase from $121 million in 2013.
We found that improved profitability has enabled airlines to raise their  liquidity in recent years by increasing their total cash reserves. Liquidity  levels are especially important in the airline industry because cash  balances help the airlines withstand potential industry shocks, such as  lower travel demand or more volatile fuel prices, as well as pay down debt  and reduce the risk of bankruptcy. U.S. airlines as a whole have  increased their cash reserves from approximately $8 billion in 2007 to  approximately $13 billion in 2012.
Network airlines have also generally reduced their long-term debt and  certain airlines improved their credit position. Network airlines reduced  long-term debt 3.7 percent (or approximately $1.2 billion) from 2007 to  2012, while low-cost airlines saw an increase in their long-term debt of  1.6 percent (or approximately $97 million) over this period. Debt reduction  by network airlines has resulted in some improvement in credit profiles  and credit rating upgrades for certain airlines. For example, in June 2013  Fitch Ratings Service revised its ratings outlook for Delta Air Lines from  stable to positive, and in March 2014 upgraded the issuer default rating  from B+ to BB-. Among low-cost airlines, Southwest Airlines remains the  only airline with a credit rating that is considered investment grade, which  indicates relatively low to moderate credit risk. Fitch affirmed the airline’s  rating at BBB in September 2013. Improved credit ratings help airlines  lower the cost of capital by enabling them to obtain financing—including  the refinancing of existing debt—at more advantageous terms. Credit  rating analysts we spoke to emphasized, however, that the industry  remains significantly leveraged with debt, which may negatively affect  their credit ratings.
section_title: Increased Passenger Traffic, Capacity Restraint, and Ancillary Fees Have Improved Airline Revenues since the Economic Recession
paragraphs: Growth in revenues has been a key driver in the U.S. airline industry’s  improved financial health and profitability. This growth has been aided by  three factors: (1) an increase in passenger traffic; (2) capacity restraint  (i.e., limiting the supply of available seats in relation to the level of  demand), which has contributed to a rise in airfares; and (3) increased  revenues from ancillary fees. Total operating revenues decreased by  nearly $22 billion from 2008 to 2009 due largely to the recession, but  have since exceeded pre-recession levels. The industry’s operating  revenues grew 29 percent from approximately $121 billion in 2009 to  $156 billion in 2012 (see fig. 3). During this period, network airline  operating revenues increased 29 percent (from $92.5 billion to $120  billion), while operating revenues for low-cost airlines grew 43 percent  (from $19 billion to $27 billion).
Although airlines’ operating revenues have increased in recent years, net  profit margins for the industry remain lower than those for most other  industries. According to an industry association, for example, operating  profits for nine U.S. passenger airlines in 2013 were 4.9 percent of total  operating revenues, as compared to the Standard & Poor’s 500 Index  industry average, which was twice that percentage.
A recovery in domestic passenger traffic since 2009 has been a key  factor in the growth in airline revenues and industry profitability. Total  domestic airline passenger traffic, as measured by revenue passenger  miles (RPMs) (e.g., one fare-paying passenger transported one mile)  dropped about 8 percent from approximately 579 billion RPMs in 2007 to  532 billion RPMs in 2009 largely due to the economic recession, and  recovered from 2009 through 2012 to approximately 575 billion RPMs.
Restraint in airline capacity—as measured by the supply of available seat  miles—has also contributed to industry profitability since 2007 by allowing  increased revenues at lower costs. Until recently, it was common in the  U.S. airline market for any reduction in capacity to be quickly replaced.  For example, we have previously found that although one airline may  reduce capacity or leave the market, capacity has tended to return  relatively quickly through new airline entry or expansion by an existing  airline. In fact, we found in 2008 that some U.S. airline industry  recoveries stalled because airlines grew their capacity so quickly—either  by adding additional flights or flying larger aircraft with more seats in an  effort to gain market share—that their ability to charge profitable fares  was undermined. This dynamic appears to be changing in recent years,  however. Several industry experts told us that network airlines responded  to high fuel prices and declining demand during the economic recession,  as expected, by reducing the supply of available seats. For example,  network airline domestic capacity decreased nearly 10 percent from 446  billion available seat miles in 2007 to 403 billion available seat miles in  2009. However, unlike after other industry downturns, network airlines  have not responded to rising demand for air travel in the last few years by  increasing capacity, as available seat miles essentially remained flat (a  decline of about 1 percent) from 2009 through 2012 as shown in figure 4  below.
Domestic capacity has remained flat while domestic RPMs have  increased since 2009, contributing to an increase in unit revenues. Unit  revenues rose for network and low-cost airlines from 2007 to 2008 and  then fell from 2008 to 2009 largely due to the economic recession. From  2009 to 2012, unit revenues for both segments increased. Specifically, as  shown in figure 5, over that 4-year period, network airlines’ unit revenues  increased 23 percent (from approximately $0.11 to $0.14 per available  seat mile), while low-cost airline unit revenues rose approximately 27  percent (from approximately $0.10 to $0.13).
As demand has increased, capacity restraint has resulted in higher  airfares. For example, average one-way domestic fares not including  taxes or other fees increased approximately 9 percent from $184.92 in  2007 to $201.00 in 2012 for network airlines, and approximately 17  percent from $117.37 to $137.00 for low-cost airlines.
Network airlines have readjusted capacity to add available seats on more  profitable routes, particularly those to international destinations. In 2007,  approximately 63 percent of network airlines’ available seat miles were  domestic and 37 percent were international. In 2012, network airlines’  international available seat miles represented 42 percent of their total  capacity. Network airlines are shifting their focus to international routes, in  part, because they are more profitable and in these markets they face  less competition from low-cost airlines, which provide predominantly  domestic service. In addition, as we found in 2008, international routes  provide additional passenger flow and revenue because passengers often  travel through network airlines’ domestic networks to reach the departure  airport for their international connection.
Airline revenues have also been supplemented by the growth in ancillary  fees for optional services. These include fees for services that were  previously included in the price of airfare, such as checked bags, early  boarding, seat selection, and meals, and for new services that were not  previously available like Wi-Fi access and other entertainment options.  In addition, Delta, United, and American have increased their ticket- change fees on nonrefundable tickets to as much as $200. According to  industry experts, ancillary fees have been beneficial for airlines by  enabling them to collect revenues that are related to the costs imposed by  individual passengers, in contrast to the previous approach in which  airlines spread the costs associated with these services equally across all  travelers through fares, regardless of whether all passengers actually  used the specific services. Ancillary fees comprise an increasing  proportion of airline operating revenues, although the total amount is  unclear because airlines are only required to report their checked bag and  reservation change fees. In 2012, the U.S. airline industry generated  approximately $6 billion in checked baggage and reservation change  fees, up from approximately $1.4 billion in 2007. Revenues from checked  baggage and reservation change fees reported by network airlines have  grown from about 1 percent of total operating revenues in 2007 to  approximately 4 percent in 2012. Checked baggage and reservation  change fees collected by network airlines increased from approximately  $1.2 billion in 2007 to $5.1 billion in 2012. Over the same period, checked  baggage and reservation change fees reported by low-cost airlines  increased from approximately $183 million (about 1 percent of total  operating revenues) in 2007 to approximately $892 million (about 3  percent) in 2012. Ultra low-cost airlines like Allegiant Air and Spirit  Airlines that offer low fares are particularly reliant on ancillary fees. For  example, revenues from checked baggage and change fees reported by  Spirit Airlines grew from nearly 3 percent of total operating revenues in  2008 to almost 15 percent in 2012.
section_title: Cost Reduction Measures Have Also Contributed to Improved Financial Health for Network Airlines, While Low-Cost Airline Costs Have Risen
paragraphs: Efforts by network airlines to reduce costs have also been a key factor in  the improved financial performance of the U.S. airline industry. We have  previously found that bankruptcy restructuring during the last decade  played a key role in enabling network airlines to reduce costs. The  bankruptcy process enabled Delta Air Lines and American Airlines to cut  their costs by negotiating contract and pay concessions from their labor  unions and through bankruptcy restructuring and personnel reductions.  Bankruptcy restructuring also allowed some large airlines to significantly  reduce their pension expenses by terminating their pension obligations  and shifting claims to the Pension Benefit Guarantee Corporation.
Network airlines have also accomplished cost reductions by more  efficiently managing capacity. As previously mentioned, there have been  four mergers and acquisitions involving major airlines since 2007,  including Delta-Northwest (2008), United-Continental (2010), Southwest- AirTran (2011), and American-US Airways (2013). These mergers and  acquisitions allowed the airlines to achieve efficiencies by reducing  redundant capacity and eliminating inefficient operations at hub airports.  Prior to their merger, for example, Delta used Cincinnati as a hub for air  traffic in the Midwest, while Northwest relied on Memphis as its hub in the  Southeast. Through its merger with Northwest, however, Delta gained a  more attractive hub for Midwestern traffic in Detroit to accompany its hub  in Atlanta and subsequently downsized Cincinnati and Memphis as hubs  in its network.
Low-cost airlines have not achieved the same cost reductions since 2007  that network airlines have accomplished, and instead have experienced  rising unit costs. For example, fuel costs rose for both network and low- cost airlines during the recent recession, and now comprise a greater  percentage of airlines’ operating costs. From 2007 through 2012, for  example, fuel costs grew from 31 to 38 percent of operating costs for low- cost airlines, and from 26 to 29 percent of network airline operating costs.  Much of this growth for low-cost airlines can be attributed to Southwest  Airlines, the largest low-cost airline. Southwest’s fuel costs grew from 30  percent of operating costs in 2007 to 37 percent in 2012. According to  an industry analyst’s report, the impact of higher fuel prices has been  greater for low-cost airlines. This has occurred, in part, because low- cost airlines have reduced aircraft utilization, or the average number of  hours that an aircraft is in flight in a 24-hour period. For example, higher  fuel prices have made off-peak flying—i.e., flights that depart in the early  morning or late evening carrying fewer passengers—less attractive for  low-cost airlines as these flights are less profitable, and unit costs  increased as a result.
Non-fuel unit costs, measured as cost per available seat mile excluding  fuel costs, have also steadily increased for low-cost airlines since 2007,  while network airlines’ non-fuel unit costs have only slightly increased. A  2008 academic study found that the non-fuel cost advantage (excluding  fuel and transport expenses) low-cost airlines have had over network  airlines narrowed from 2000 to 2006, and we found that this trend has  continued to 2012, as shown in figure 6 below. Non-fuel unit costs for  network airlines increased about 14 percent from approximately $0.08 per  available seat mile in 2007 to $0.09 in 2012, while low-cost airline non- fuel unit costs rose nearly 24 percent from approximately $0.06 to  $0.08. An industry analyst report attributes the increase in low-cost  airlines’ non-fuel unit costs to the effects of the recent recession, which,  by slowing low-cost airline growth, led to increased average  compensation and maintenance costs for low-cost airlines as their fleets  and workforce have matured. Although the gap between network and  low-cost airlines’ non-fuel unit costs has narrowed since 2007, some  academic experts point to a structural gap in costs between network and  low-cost airlines that is unlikely to reduce further, as the costs associated  with the extensive networks and air-transportation service network that  airlines provide are inherently greater than those for low-cost airline  service.
section_title: Despite Industry Consolidation, the Average Number of Competitors Has Not Substantially Changed in the Markets Traveled by the Majority of Passengers
paragraphs: Since 2007, there has been little change in the average number of  competitors in the most heavily traveled domestic markets. In addition,  the markets serving the most passengers were less concentrated than  the markets serving the fewest passengers. These results do not factor in  market changes from the 2013 merger between American Airlines and  US Airways, but they do account for some of the market changes that  may have occurred through the other three mergers that occurred from  2008 to 2011. The effect of airline mergers on the structure of individual  city-pair markets may not be immediate as it can take years for merging  airlines to fully integrate. Fewer competitors might have been expected in  some markets as a result of the merger activity, and although we did find  fewer competitors in some markets, in other markets we found that the  number of competitors actually increased. The latter results may have  occurred in part due to growth in network size and new connections  created since the mergers. In addition, we found that since 2007, low-cost  airlines have expanded into the largest passenger markets, adding new  competitors in some markets where mergers may have reduced  competition.
subsections: section_title: Analysis of City-Pair Market Quintiles
paragraphs: To perform our market structure analysis, we used DOT’s Origin and  Destination Survey data, which is a 10-percent quarterly sample of all  airline tickets sold. We assessed approximately 91,000 U.S. markets with  passenger traffic each year from 2007 through 2012; therefore, several  mergers were completed during the time period covered by this analysis.  We filtered the data to include only those markets with at least 520 one- way passengers or 1,040 round-trip passengers because markets with  fewer passengers would be too small to ensure statistical accuracy. We  also excluded markets in Alaska and Hawaii. This filter removed 6  percent of the passengers from the full dataset. We primarily used the  city-pair market as our unit of analysis, meaning that travel between two  metropolitan areas is the relevant market. For each of the 6 years, we  then categorized the markets into quintiles based on the total number of  passengers in our sample, and for every year, traffic was segregated so  that each quintile contained approximately 20 percent of the total  passengers for that year. However, because the passenger traffic is not  evenly distributed across all city-pair markets, the corresponding number  of city-pair markets in each quintile differs substantially (see table 1).
Because certain routes carry many more passengers than others, the first  quintile includes the most heavily traveled city-pair markets, while the fifth  quintile includes the least-traveled city-pair markets in the sample. For  instance, in 2012, about 83 million passengers—or about 20 percent of  the approximately 411 million passengers in our sample—traveled in 37  city-pair markets in the first quintile. We refer to the markets in the first  quintile as the largest markets. Examples include New York to Los  Angeles and Washington, D.C. to Boston. Conversely, approximately 82  million passengers in the fifth quintile spread their flying across more than  9,300 markets, meaning that these city-pair markets are some of the  least-traveled domestic routes. Likewise, we refer to the markets in the  fifth quintile as the smallest markets. Examples include Pittsburgh,  Pennsylvania to Bangor, Maine, and Spokane, Washington to Billings,  Montana.
section_title: Since 2007, the Average Number of Competitors Has Changed Little in the Most Heavily Traveled Markets
paragraphs: We found that there has been little change in the average number of  effective competitors across the markets in our analysis from 2007  through 2012. For example, during this period, the average number of  effective competitors each year ranged from 4.3 to 4.5 in the markets  represented in the first quintile (see fig. 7). The average number of  effective competitors in the markets represented in the second quintile  increased slightly from 3.7 in 2007 to 3.9 in 2012. On the other end of the  spectrum, there has been a small decrease in the average number of  effective competitors serving the smallest markets represented in the fifth  quintile. Specifically, the average number of competitors fell from 3.3 to 3  between 2007 and 2012 in these small markets. See appendix II for the  full results of our analysis.
Across all city-pair markets in our sample, we also observed a small  increase in the percentage of dominated markets—in which one airline  has at least 50 percent of all passenger traffic—but at the same time, a  decrease in the percentage of monopoly markets, which are markets with  only one provider. In 2007, approximately 72 percent of all city-pair  markets were dominated markets; however, about 77 percent of all  markets were dominated in 2012. Consequently, while the average city- pair market quintile may have between 3 and 4.5 effective competitors, as  shown in the figure above, more than three-quarters of markets are  dominated by a single airline. Although there were more dominated  markets by the end of 2012, further analysis shows that the number of  monopoly markets decreased from 1,712 in 2007 to 1,566 in 2012  (approximately a 9 percent decrease). Overall, we found that nearly all of  the monopoly markets were the least-traveled markets, which is not  surprising as markets with lower demand would be less likely to support  more than one airline. concentration may not fully reflect the competitive significance of firms in  the market, or the extent to which other factors—such as entry  conditions—might also influence the extent of competition in the market.
We found that the markets serving the most passengers were less  concentrated than the markets serving the fewest passengers. Moreover,  there was a slight reduction in concentration in the highest-traveled  markets represented in the first quintile from 2007 through 2012 (see fig.  8). The notable exception to that trend is the slight increase in  concentration in those markets beginning in 2011. This corresponds to  the slight decrease in effective competitors in those markets during this  same time period and may represent the effect of recent airline mergers  as consolidation has reduced the number of competitors overall. In the  smallest passenger markets represented in the fifth quintile, market  concentration as measured by the HHI has increased from 2009 through  2012.
Because our analysis of effective competitors and market concentration is  an average over a large number of markets, substantial changes that  have occurred in some markets since 2007 may be obscured. Several  examples help illuminate some of the changes in the number of  competitors in certain markets:
New York City (JFK) to Los Angeles (LAX): The number of effective  competitors offering direct or connecting service in this first-quintile  market increased from three to five between 2007 and 2012, as new  low-cost airlines entered this market. In 2007, this market was  dominated by one airline, but by 2012 no airline had more than 28  percent of the total passenger traffic.
Salt Lake City (SLC) to Memphis (MEM): The number of effective  competitors offering direct or connecting service in this fifth-quintile  market fell from six to two between 2007 and 2012, in part, because  of airline consolidation and changing airline business strategies, such  as decisions to reduce service to former hubs. In 2007, no airline had  more than 44 percent of the market share; however, by 2012 Delta Air  Lines had over 80 percent of the market, reflecting a high degree of  concentration.
Boise, Idaho (BOI) to Bozeman, Montana (BZN): The number of  effective competitors offering direct or connecting service in this fifth-  quintile market fell from three to one from 2007 to 2012.
Despite greater consolidation in the U.S. airline industry and restraint on  the part of airlines in managing capacity, two factors may help explain  why many markets maintained approximately the same number of  effective competitors:
Mergers created new connections: When two airlines merge and  combine their networks, the merged airline can connect consumers to  more destinations within its network than previously possible. One  rationale given for the mergers between Delta Air Lines and  Northwest Airlines and United Airlines and Continental Airlines was  the greater scope and scale of the combined network. We found in  2010 that merging two networks expands choice by increasing the  number of possible routings served by a network, as well as the  number of passengers who can be served, and the ways that they can  be served. For example, we found in 2010 that the combination of  United and Continental created a new effective competitor in 173  markets affecting 9.5 million people. For example, before the merger,  United provided service to Hector International Airport in Fargo, North  Dakota, and Continental provided service to Rick Husband Amarillo  International Airport in Amarillo, Texas, but there was no connection  between these two communities on either United or Continental.  Beginning in 2012, the new United Airlines began providing  connecting service via Denver International Airport.
Low-cost airlines have expanded into new markets: Based on our  analysis, we found that low-cost airlines expanded most rapidly into  the largest passenger markets between 2007 and 2012. For example,  in 2007 there was an average of 1.7 low-cost airlines in the largest  passenger markets represented in the first quintile of our analysis, but  by 2012 there were 2.3 low-cost airlines on average in those markets.  For example, low-cost airline entry provided new competitors in the  New York-to-Los Angeles market. In the smallest passenger markets,  i.e., the fifth quintile, the number of low-cost airlines has essentially  remained flat between 2007 and 2012.
Additional changes to the structure of the market may occur after the  three recent airline mergers are fully implemented and conditions for  approving the fourth and most recent merger are fully met, as well as due  to other economic circumstances. We have found that it can take some  time for airlines to merge their operations, technologies, and labor  forces. For instance, in 2013 we found that United struggled to integrate  computer and reservation systems following its merger with Continental in  2010. Also, pursuant to an agreement with the states that had joined the  DOJ action to enjoin the proposed merger between American and US  Airways, the new American Airlines agreed to keep seven current hubs  for a period of 3 years. Those hubs include Charlotte Douglas  International Airport, Chicago O’Hare International Airport, Los Angeles  International Airport, Miami International Airport, John F. Kennedy  International Airport, Philadelphia International Airport, and Phoenix Sky  Harbor International Airport. However, the airline’s business strategy  could change in the future. For instance, even though in 2010 the state of  Ohio and United signed a similar agreement that guaranteed hub-level  service at Cleveland Hopkins International Airport, United recently  announced that it would no longer be using that airport as a hub.
We also evaluated trends in the number of effective competitors and  concentration in terms of the distance of the market. We found that  longer-distance markets (greater than 1,000 miles) continue to have more  competitors than shorter-distance markets (less than 250 miles) and that  the average number of effective competitors from 2007 through 2012 has  changed little in each distance category. For example, we found that in  2012 there was an average of 4.1 competitors in markets longer than  1,000 miles, compared to only 3.2 in markets shorter than 250 miles.  Based on the HHI, we also found that longer-distance markets are  generally less concentrated than shorter-distance markets. The difference  exists in large part because longer-distance markets have more viable  options for connecting passengers over more hubs. For example, a  passenger on a flight from Richmond, Virginia to Salt Lake City, Utah—a  distance of about 2,000 miles—could not fly directly, but would have  multiple connecting options, including through Hartsfield-Jackson Atlanta  International, Chicago O’Hare International, and Dallas/Fort Worth  International Airports. By comparison, a passenger from Seattle to  Portland, Oregon—a distance of just under 300 miles—has no viable  connecting options, nor would connections be as attractive to passengers  in short-haul markets.
section_title: The Number of Dominated Large- and Medium-Hub Airports Has Generally Remained the Same since 2007
paragraphs: We also found that the number of airlines with a dominant position— carrying at least 50 percent of all domestic passenger traffic—at the  largest airports in the U.S. is relatively unchanged from 2007 through  2012. For example, 13 of the 29 large-hub airports in 2012 were  dominated by a single airline, up from 12 in 2007. The majority of the  large-hub airports were dominated by network airlines and at some of  these airports, the dominant airline increased its market share. For  example, Delta Air Lines increased its proportion of passenger traffic at  Hartsfield-Jackson Atlanta International Airport from about 53 percent in  2007 to nearly 62 percent in 2012. However, American Airlines’ dominant  position at Dallas/Fort Worth International Airport declined from about 70  percent to 65 percent from 2007 through 2012 owing to multiple factors,  including the entry of low-cost airlines at that airport. Low-cost airlines  were dominant at two large-hub airports in 2012. For example, Southwest  Airlines increased its dominant position at Chicago Midway International  Airport from 74 percent of passenger traffic to 85 percent from 2007  through 2012. Airlines also increased their dominant position at medium- hub airports. In 2012, 15 of the 35 medium-hub airports were dominated  by a single airline, up from 11 in 2007, and most of these airports were  dominated by low-cost airlines. Nineteen of the 74 small-hub airports in  2012 were dominated by a single airline, up from 13 in 2007, and most of  these airports were also dominated by low-cost airlines.
Generally, the average market share of the largest airline that operates at  the nation’s large-, medium-, and small-hub airports has not changed  substantially since 2007. We found that since 2007, the average market  share of the largest airline at the 29 large-hub domestic airports increased  about 8.5 percent overall, from about 43 percent to just over 46 percent of  passenger traffic. However, on average, the largest airline at the nation’s  35 medium-hub airports held about 43 percent of the passenger traffic in  2007 and just over 46 percent in 2012. The average market share of the  largest airline at the 74 small-hub airports grew the most from  approximately 28 percent in 2007 to over 45 percent in 2012. Similarly,  using the HHI measure of concentration, we found that larger airports  have on average become less concentrated, while smaller airports have  become on average slightly more concentrated during the same time  period.
section_title: Consumers Have Experienced a Rise in Fares, Additional Fees, and Fewer Flights in Certain Markets, but Benefit from New Services and Expanded Networks
subsections: section_title: Domestic Fares Have Recently Risen
paragraphs: As the economy has been slowly recovering from the recent recession,  demand for air travel has also been recovering. As noted previously,  increased demand, along with airline capacity restraint, has contributed to  higher fares. We found that consumers paid approximately 4 percent  more in real terms, on average, for air travel in 2012 than they did in  2007. For instance, according to DOT, in 2007, the average one-way,  inflation-adjusted domestic fare was $182.72 and in 2012 was $190.10. A  recent study found that average one-way, inflation-adjusted airfares  increased the most at medium-hub airports, and to a lesser extent at  large- and small-hub airports from 2007 through 2012. Fares include  only the price paid for the ticket purchase and do not include taxes or  other fees, such as baggage fees. Specifically, average fares at medium- hub airports, which also experienced the greatest capacity cuts,  increased nearly 12 percent, whereas they increased by 8.7 percent on  average at large-hub airports and 5.7 percent at small-hub airports over  the 6-year period. Fares have continued to rise since 2012. According to  DOT, the average domestic airfare increased 5 percent from the third  quarter of 2012 to the third quarter of 2013, the latest time period for  which data were available.
Two factors likely have contributed to higher average airfares from 2007  through 2012:
Capacity restraint: As discussed above, beginning in 2007, network  airlines reduced domestic capacity in response to challenging  economic conditions, and since 2009, available seat miles have not  rebounded despite increased demand for air travel. As a result,  domestic airlines have been flying fuller flights. According to well- established principles of supply and demand, a reduction in supply  with constant or increasing demand will typically lead to higher prices.  Medium-hub airports, which have lost the most service, have also  seen the greatest airfare increases. In particular, several academic  and research experts we spoke to said that airlines are now managing  their growth carefully in an attempt to reduce costs and raise yields,  which are the average fares paid per passenger mile. Additionally,  according to several network airline representatives, airlines are  prioritizing high-yield markets. That is, instead of operating at pre- recession levels throughout their networks, network airlines are  allocating capacity across markets in order to maintain more capacity  on the most profitable routes and limit capacity in markets that are  less profitable. According to several academic and research experts  we spoke with, the reduction in the number of network airlines as a  result of consolidation has made it easier for the remaining airlines to  maintain this strategy.
Low-cost airlines are exerting less pressure on fares: While low- cost airlines continue to offer lower fares on average than network  airlines, recent trends suggest that the fare-reducing effect of entry  by the largest low-cost airline in certain markets may be waning.  Typically, this phenomenon, which has been referred to as the  “Southwest effect,” occurs when a low-cost airline enters or is present  in a market and offers lower fares than incumbent airlines, which in  turn causes those incumbent competitors to respond by lowering  prices in that market. These lower fares may also stimulate new  demand and additional traffic. However, a recent Massachusetts  Institute of Technology (MIT) study found that Southwest Airlines no  longer seems to have the price disciplining effect it once had. From  2007 through 2012, according to the study, fares increased the most  at three airports where a significant percentage of flights were  operated by Southwest, including Chicago Midway International  Airport, Love Field in Dallas, and William P. Hobby Airport in Houston.  Since capacity changes at these airports were relatively low, the study  suggested that Southwest had demonstrated a widespread pattern of  fare increases, but noted that two of the airports saw large increases  in average passenger itinerary distance as Southwest expanded the  types of markets served from William P. Hobby Airport and Love Field  from 2007 through 2012, a change that could explain the higher fares.  Nevertheless, the MIT study also noted that average fares increased  23 percent at Chicago Midway International Airport despite a  negligible change in passenger itinerary distance. Moreover,  Southwest’s strategy has evolved since 2007 as the airline has  started to move into larger airports and business markets, thereby  contributing to an increase in its costs and average fares.
section_title: Consumers Are Paying More in Ancillary Fees, but those Fees Are Not Always Fully Disclosed at Time of Purchase
paragraphs: Another trend affecting consumers is the widespread and increasing use  of ancillary fees by airlines. As previously discussed, airlines have  imposed a variety of ancillary fees on a range of optional services, such  as checked and carry-on bags, meals, blankets, early boarding and seat  selection. Many airlines rely on these ancillary fees as a substantial  portion of their operating revenues. “Unbundling” airfares through the use  of ancillary fees can be advantageous from the airlines’ perspective by  allowing them to better differentiate their products, boost revenue, and  build passenger loyalty. Ancillary fees enable airlines to collect revenues  in a manner that, in some cases, more closely matches passengers’ use  of airline services to the costs of providing those services. For example,  providing service for checked bags is costly for airlines, but only certain  customers use the service, so charging for checked bags imposes those  costs only on those who choose to use the service. Ancillary fees may  also be used as a means to differentiate among passengers and gain  more revenues by charging for amenities that some customers may value  more highly—and are more willing to pay for—than other customers, even  though the cost of providing the amenity may be negligible. For example,  by charging a fee to choose a more desirable seat on the aircraft, airlines  are able to earn more revenue by providing an enhanced product offering  to certain consumers, even though, in this case, the cost of providing the  more highly valued seat is negligible.
For certain consumers, the ability to pay for particular services they  desire, such as Wi-Fi or in-flight entertainment, may represent a positive  development. For other consumers, however, certain ancillary fees may  not seem truly optional and may increase the overall cost of flying. For  example, a family of five traveling on vacation may pay in excess of $100  for checked bags that they could not carry on board in addition to the  base airfare. A recent study that investigated the impact of bag fees on  airfares between 2008 and 2009 found that when airlines introduced bag  fees in 2008, fares fell by about 3 percent, but the total cost of travel was  higher for passengers who checked bags. According to our analysis of  DOT data, the U.S. airline industry collected nearly $6 billion in baggage  fees and reservation cancellation charges in 2012, but, as noted above,  the total ancillary revenue collected from passengers is unknown as these  fees are not reported separately to DOT. Moreover, consumers may not  have full information about the true cost of air travel at the time they  purchase their ticket. We previously found that information about ancillary  fees is not fully disclosed through all ticket distribution channels used by  consumers, making it difficult for them to compare the total cost of flights  offered by different airlines. This issue is discussed further in the next  section of this report.
section_title: By Reducing Service to Medium- and Small-Hub Airports, U.S. Airlines Offer Consumers Fewer Domestic Flights
paragraphs: U.S. airlines, in particular network airlines, have reduced the number of  flights they offer passengers in certain markets. For instance, according  to our analysis of DOT data, about 1.2 million scheduled domestic flights  were eliminated from 2007 through 2013 at large-, medium-, and small- hub, and nonhub airports. Scheduled departures at medium-hub airports  decreased nearly 24 percent between 2007 and 2013, compared to a  decrease of about 9 percent at large-hub airports and about 20 percent at  small-hub airports over the same time period (see fig. 9). Medium-hub  airports also experienced the greatest percentage reduction in air service  as measured by available seats. As we discussed previously, mergers— which have allowed airlines to reduce redundant capacity and eliminate  hub airports—and capacity restraint have resulted in a reduction of flights  across the country. In addition, we recently found that air service to small  communities has declined since 2007 due, in part, to higher fuel costs,  consolidation, and reduced demand from declining populations and as a  result of some passengers opting to drive to larger markets with more  attractive service (i.e. larger airports in larger cities). A recent MIT study  on domestic air service trends reported similar results and found that the  prolonged economic downturn, high fuel prices, and capacity restraint  contributed to a reduction in service. The study concluded that airlines  have been consolidating service at the nation’s largest airports, while  cutting back on service to medium- and small-hub airports.
We previously found that the percentage of flights that are canceled or  diverted has been higher at airports in small rural communities than in  large metropolitan areas. One side effect of this trend is long travel  delays. According to one academic study, the overall delay time in 2010  for passengers on canceled flights was about 5 hours. This effect is  further exacerbated by the increase in domestic passenger load factors  from 2007 through 2012 (see fig. 10 below). Flight disruptions, including  delays and cancellations, are costly for passengers, airlines, and the  economy. In recent years, roughly a quarter of all commercial flights  have been delayed or canceled. Given that most flights in recent years  tend to have fewer empty seats available, passengers on delayed or  canceled flights often have limited opportunities to rebook on other flights,  amplifying the disruptions and associated costs. These disruptions may  be particularly challenging for smaller communities that have infrequent  service.
Reduced service at certain airports can be attributed to several factors,  including:
Elimination of hubs: Merging airlines expect to rationalize their  combined networks, including hub locations, over time, in order to  achieve economies of scale and reduce inefficiencies. For example,  in 2010 we found that the combined United and Continental Airlines  would be unlikely to retain eight domestic hubs, especially given the  considerable overlap between markets served by United out of  Chicago and Continental out of Cleveland. On February 1, 2014,  United officially announced that it was substantially reducing  operations at the Cleveland Hopkins International Airport, citing lower  demand at that airport. Similarly, following its merger with Northwest  Airlines, Delta has substantially reduced operations through Memphis  International Airport, which had been a hub for Northwest and is  located near Hartsfield-Jackson Atlanta International Airport, Delta’s  largest hub. Airline strategies that reduce or limit service to certain  airports can have consequences for the local communities. For  instance, losing connectivity to major domestic and international  markets may reduce the vitality of the local economy. In addition,  fewer flights can make it more difficult for airports to cover the costs of  their infrastructure.
Less frequent flights and “up-gauging” aircraft: As discussed  above, in some instances, airlines have reduced the frequency of  flights on certain routes that are less profitable. Instead of flying  multiple daily flights to certain airports on smaller regional aircraft,  airlines are flying less frequently but using larger aircraft (referred to  as “up-gauging” service) and routing that traffic to large-hub airports.  As shown above in figure 9, the percentage reduction in the number  of flights exceeds the reduction of available seats from 2007 through  2012, particularly for smaller airports. In other instances, airlines may  be eliminating flights altogether on some routes that used smaller  planes. According to one airline executive we spoke with, up-gauging  may be less convenient for consumers who value frequent flights, but  it can be beneficial if the consumer seeks to connect through major  hub airports. It can also reduce congestion, leading to fewer flight  delays. Our analysis of DOT data shows that the average number of  seats per flight has increased slightly for all airports in the country,  with the trend of up-gauging most notable at medium- and small-hub  airports (see fig. 11).
Additionally, reduced service at certain airports has resulted in lost  connectivity to the air transportation network for some small communities.  According to an MIT study, 23 airports in small communities lost all  service between 2007 and 2012. The study found that network airline  service at some of the smaller airports was quickly replaced by service  from ultra-low cost airlines like Allegiant Air and Spirit Airlines. According  to the study, for instance, after US Airways and Northwest Airlines ended  service from Arnold Palmer Regional Airport in Latrobe, Pennsylvania,  Spirit Airlines entered the airport to provide periodic, non-stop service  primarily to leisure destinations in the Southeast.
section_title: Some Consumers May Benefit As Airlines Attempt to Offer New Services and Expanded Networks
paragraphs: U.S. airlines are seeking to provide greater differentiation between the  products they offer by enhancing the travel experience and establishing  customer loyalty to a specific airline rather than viewing the product as a  commodity. Airlines are increasingly competing on service by investing in  technology to enhance their websites, upgrading their fleets and airport  lounges, and providing the types of services and on-board amenities that  consumers may value. Network airlines are marketing their ability to offer  travelers access to more global destinations through expanded networks.  Network and low-cost airlines are also purchasing new airplanes as  evidenced by new aircraft orders in 2013. Higher fuel prices are driving  the demand for newer, more fuel-efficient aircraft, in addition to U.S.  airlines’ desire to replace older fleets. Passengers may benefit from these  new planes because they are quieter and offer enhanced entertainment  options and other in-flight amenities. Some airlines, for example, offer flat- bed seats, premium economy seats, faster Wi-Fi, and larger overhead  bins. For certain passengers, some airlines are introducing premium  services such as limousine pick-up at the gate. Some airlines are also  waiving certain ancillary fees, such as bag fees, in an attempt to increase  loyalty to their brand. Moreover, by introducing new technology, including  mobile applications, airlines hope to make it easier than ever to purchase  tickets from their websites. However, according to both consumer  advocacy organizations we spoke with, as network and low-cost airlines  compete more on service, attempt to differentiate their brands, and take  steps to increase consumer loyalty, an adverse effect is that consumers  have less ability to comparison shop and airlines compete less on price.
section_title: Airline Stakeholders Identified Several Challenges to Airline Competition and Proposed Limited Federal Actions to Address Them
paragraphs: We interviewed 26 stakeholders representing different facets of the airline  industry—including academic and research experts, airline  representatives, industry trade associations, industry analysts from credit  rating agencies and financial services firms, an airport authority,  organizations representing the travel industry, and consumer advocacy  organizations—to help identify challenges to competition in the airline  industry (see app. I for a complete list). Although our analysis found that  since 2007 the structure of the market, with respect to the average  number of effective competitors and average concentration levels, has  not substantially changed in the highest-traffic city-pair markets, many  stakeholders we spoke to stressed that there are competition concerns  beyond the number of effective competitors and level of concentration.  Stakeholders identified a number of challenges, which we categorized  into four challenges to airline competition: (1) barriers that prevent airlines  from entering the industry or specific markets; (2) the lack of transparency  in airline fare and fee disclosure; (3) the effects of consolidation on  competition; and (4) emerging international competition concerns. Certain  stakeholders also suggested several actions the federal government  could take that in their view would help address these challenges— including removing slot controls, which limit the number of takeoffs and  landings per hour at four capacity-constrained airports; eliminating airline  loyalty programs; and encouraging the completion of federal regulations  that would provide consumers greater transparency in fares and fees.
subsections: section_title: Most Stakeholders Cited Barriers to Entry as a Challenge
paragraphs: A majority of the stakeholders we interviewed cited barriers to entry as a  key challenge to competition in the domestic passenger airline industry.  Barriers to entry are practices or conditions that impede a firm’s ability to  enter either an industry or specific markets within the industry. As entry,  or the threat thereof, may have a disciplining effect on incumbent firms’  behavior, barriers that make entry more difficult can hamper competition  and enable incumbent firms to charge higher prices without fear that  doing so will attract new competitors. The last major airline to enter the  U.S. market was Virgin America in 2007. We grouped the entry barriers  stakeholders identified into three primary categories: barriers to airport  access, diminished cost advantages and access to capital for new  airlines, and advantages held by network airlines.
Airport access: The inability to obtain access and secure a foothold  at some key airports was identified as a major entry barrier by 10 of  the 26 stakeholders we interviewed. These stakeholders drew  attention to slot controls that are in place at four major congested  airports. We have previously found that slot controls allow airports to  manage congestion; however, they also limit access for new entrants  to some of the busiest airports in the country. According to one  industry analyst, difficulty in obtaining landing rights at these airports  makes it harder for new airlines to compete for the most lucrative  business travelers. As we found in September 2012, airlines that hold  slots might underutilize them by, for example, using smaller aircraft  instead of giving the slots up, thereby reducing access by new-entrant  airlines that could use the slots to offer new service or lower fares and  also limiting passenger growth at these airports. In addition to slot  controls, 5 stakeholders, including academic and research experts  and travel and consumer advocacy organizations pointed to limited  access to gates and facilities at other airports as an entry barrier.  According to DOT, consolidation has made it increasingly difficult for  certain airports to secure financial approvals for infrastructure projects  that could allow greater access for new entrants (e.g., by building new  gates). According to DOT officials, many airports are bound by  majority-in-interest provisions, which in effect give the largest airlines  at airports the ability to veto or delay major capital infrastructure  projects.
The federal government has taken steps to begin to address both slot  and airport-access challenges. For example, the DOJ’s settlement  approving the American-US Airways merger required the merging  airlines to divest slots and open up gates and other facilities to  facilitate competition from low-cost airlines at seven key airports  around the country. Specifically, American Airlines and US Airways  surrendered 104 slots at Ronald Reagan Washington National Airport  that have been divested to low-cost airlines Southwest, JetBlue, and  Virgin America. The airlines also divested 34 slots at New York’s  LaGuardia Airport to Southwest and Virgin America. The settlement is  intended to mitigate any anticompetitive effects of the merger by  allowing low-cost airlines to expand into new markets and provide the  opportunity for more competition to the remaining major network  airlines. The Federal Aviation Administration (FAA) is also developing  a new rulemaking to replace the current temporary orders limiting  scheduled operations at John F. Kennedy International Airport,  LaGuardia Airport, and Newark Liberty International Airport and  address congestion and delay issues at each of these airports. The  draft notice of proposed rulemaking is currently under review at the  Office of Management and Budget. Additionally, DOT’s Office of the  Secretary of Transportation and FAA attempt to advance airline  competition at larger commercial service airports through their review  of airport competition plans. Large- or medium-hub airports, at which  one or two airlines control 50 percent or more of the passenger  boardings, are required to submit competition plans to demonstrate  how their leasing and financing practices will provide competitive  access to airlines attempting to initiate service at those airports. DOT  officials reported that the agency reviews approximately 40 airport  competition plans or plan updates annually, and since 2011, seven  airports became newly subject to competition plan requirements. One  stakeholder we spoke with, however, highlighted concerns with the  efficacy of competition plans at slot-controlled airports.
Diminished cost advantages and access to capital for new  entrants: Cost challenges—including limited available capital and the  cost of jet fuel—were identified as significant obstacles for new  airlines seeking to enter the market by eight stakeholders, including  academic and research experts, industry analysts, and several airline  representatives. Previously, new airlines were often able to compete  with incumbents by exploiting certain cost advantages, such as lower  operating costs. However, any cost advantage that a new entrant   might have had relative to larger airlines has been muted by the price  of fuel, which grew to approximately 30 percent of U.S. airlines’  operating costs in 2012. While new entrants in the market have relied  in the past on purchasing older, cheaper aircraft to establish their  fleet, the rising cost of fuel has made these less fuel-efficient aircraft  cost-prohibitive. Further, Boeing and Airbus have a backlog of aircraft  orders, which makes it more difficult for a new airline to obtain new  aircraft. Representatives from two airlines and several industry  analysts told us that another factor limiting entry has been the  difficulty new airlines have faced in securing the capital needed to  expand their fleets since the most recent recession.
Network airline advantages: Eleven stakeholders, including  academic and research experts, representatives from two airlines, a  consumer advocacy organization, and two travel industry  organizations emphasized that the advantages the three consolidated  network airlines maintain relative to smaller airlines are significant  obstacles that make entry into the industry and individual new markets  challenging. Specifically, according to an industry analyst and  representatives from one airline, new entrants are facing a mature  market with few domestic routes that are considered underserved.  Further, American, Delta, and United have national networks that  provide service to most domestic markets and many international  destinations. A new airline that does not provide the same level of  service in terms of destinations and frequency may not be able to  compete with these airlines. Airline loyalty programs and corporate  discounts, according to seven stakeholders, also create entry barriers.  Representatives from one airline and a travel industry organization  said that the corporate account agreements that network airlines  create with Fortune 500 companies, which provide these companies  discounts in exchange for a percentage of their corporate travel, can  place smaller airlines that cannot provide such discounts at a  significant disadvantage. Several stakeholders agreed and academic  research supports the idea that airline loyalty programs, such as  frequent flyer programs, can incentivize consumers to concentrate  their flying with one airline to accumulate miles and rewards, even  though other airlines’ fares may be more competitively priced. Six  stakeholders, including representatives from a low-cost airline,  academic and research experts, and an industry trade association,  also drew attention to an incumbent network airline’s ability to respond  to entry, or the threat thereof, in a particular market by dramatically  increasing capacity, thereby lowering fares and hindering a new  airline’s ability to profitably serve the route.
section_title: Transparency in Airline Fare and Fee Disclosure Cited as Challenges to Competition
paragraphs: Another key challenge cited by six stakeholders—including an academic  and research expert, two consumer advocacy organizations, and three  travel industry organizations—is the incomplete information about the  total cost of air travel (e.g., taxes, ancillary fees, and surcharges)  available to consumers at the time they purchase their ticket. These  stakeholders emphasized that competition between airlines is  undermined when consumers have limited ability to shop comparatively  and make decisions about their air travel purchases without full fare and  fee information. In 2011, DOT issued a final rule requiring that an airline’s  most prominently advertised airfare must be the full cost of the ticket, with  government taxes, mandatory fees, and optional surcharges included.  DOT officials also told us that there has been an increase in complaints  regarding ancillary fees since airlines first imposed fees for checked  baggage. We previously found, for example, that information about  ancillary fees is not fully disclosed through all ticket distribution channels  (e.g., online travel agencies like Expedia.com and Travelocity), making it  difficult for consumers to compare the total cost of flights offered by  different airlines.
We recommended in 2010 that DOT improve the disclosure of baggage  fees and policies to passengers by requiring airlines to disclose fees  consistently across all ticket distribution channels used by airlines. In  May 2014, DOT issued a notice of proposed rulemaking to, among other  things, make airline pricing of ancillary fees more transparent. Another  rulemaking would require more detailed reporting of ancillary fees to  DOT. The airline industry has generally opposed this effort, arguing that  expanded reporting is too complex to be economically justified and could  be used to impose new taxes.
Six stakeholders we spoke with also raised concerns with the  International Air Transport Association’s (IATA) Resolution 787. Subject  to approval by DOT, Resolution 787 proposes a technical standard for the  pricing and sale of airline tickets using Extensible Markup Language  (XML). Airlines believe the XML template will make it easier for airlines to  offer consumers products in a “shopping basket” approach that includes  the base fare as well as fees for features such as checked bags,  preferred seats, in-flight Wi-Fi, and airport lounge access. However, an  academic and research expert, two consumer advocates, and three travel  industry organizations we spoke to raised concerns about the extent to  which personal data provided by consumers will determine what travel  options an airline may offer. Recently, a coalition of approximately 400  travel industry and consumer groups, including several of the  stakeholders we spoke with, withdrew their objection to Resolution 787  and reached a negotiated agreement with IATA that limits Resolution 787  to a technical standard that would, if ultimately developed, be transparent  and voluntary for the industry. DOT tentatively approved Resolution 787  in May 2014 and found that, subject to certain conditions, approval of  IATA Resolution 787 would be in the public interest and directed  interested parties to show why DOT should not approve the resolution.  DOT’s tentative conditions of approval include adding several safeguards  to ensure that consumers shopping for air travel could not be required to  disclose personal information and specifying that airlines and ticket  agents would be obligated to follow their published privacy policies on the  sharing and storing of personal information.
section_title: Industry Stakeholders Were Divided Regarding the Effects of Industry Consolidation on Competition
paragraphs: Industry stakeholders were divided with regard to the effect increasing  consolidation in the airline industry has had on competition, specifically in  light of the merger between American Airlines and US Airways. Seven  stakeholders, including several network and low-cost airlines and  consumer advocacy organizations, maintain that the settlement allowing  the American and US Airways merger to go forward was not in the public  interest. Specifically, while the settlement provides for slot or gate  divestitures at seven major airports around the country, several consumer  advocacy organizations maintain that the divestitures will not adequately  protect against higher fares and fees and reduced service to smaller  communities that may result from the merger. Two airlines—network and  low-cost—also criticized the DOJ for narrowly focusing on divesting slots  at several airports to low-cost airlines, while another stakeholder criticized  the settlement’s focus on slot divestitures without the same attention to  gate availability. However, five other stakeholders, including two industry  trade associations and three industry analysts, strongly supported the US  Airways and American merger—along with consolidation in general—as a  means to enhance the financial viability of the airlines. For example, one  analyst told us that recent mergers are a market response to the financial  challenges airlines experienced during the recent recession, and an  industry trade association emphasized that the opportunity for airlines to  combine operations has been critical to the industry’s recent success.
section_title: Several Stakeholders Pointed to International Alliances and State- Sponsored Foreign Airlines as Emerging Competition Issues
paragraphs: Although our analysis focused on domestic airlines and markets, several  stakeholders raised concerns about potential international challenges to  competition. Two consumer advocacy organizations and two travel  industry organizations highlighted the growth of immunized international  alliances, whereby an airline may market seats on partners’ flights, as a  global development that has implications for domestic competition. DOT  has exercised its statutory authority to grant certain groups of airlines  within these alliances immunity from U.S. antitrust laws affecting  international transportation, thereby permitting participants, for example,  to coordinate on prices, scheduling, and marketing. Grants of immunity  are made by the Secretary of Transportation on a discretionary basis.  Several stakeholders we spoke with raised concerns that the antitrust  immunity airlines in these alliances have been granted to cooperate in  international markets may lead to cooperative behavior in domestic  markets. For example, on trans-Atlantic routes where airlines would  otherwise offer competing non-stop flights, competition may be limited  and consumers adversely affected if the airlines are partners in an  immunized alliance. A study by the Transportation Research Board  reported that U.S. airlines that are less capable of providing international  service could become weaker competitors, as they may be less likely to  emerge or survive as challengers to network airlines that are part of  international alliances. According to DOT, since approving the first  immunized alliance between Northwest and KLM in 1993, DOT’s policy  on airline alliances recognizes that, although the industry is among the  most inherently global of all network industries, it is still subject to  regulations that limit how airlines can adapt to market conditions. Unlike  many other global industries, according to DOT, the airline industry  cannot pursue mergers among airlines based in different countries due to  strict ownership and control laws maintained by many countries around  the world. According to DOT, antitrust immunity is a method for allowing  cooperative agreements between U.S. and foreign airlines to achieve  public benefits that would otherwise not be possible.
Other stakeholders focused on international competition with regard to  the ability of U.S. airlines to compete with foreign airlines. Specifically,  representatives from an industry trade association and representatives  from a network airline told us that U.S. airlines may be at a competitive  disadvantage in relation to several airlines in China and the Middle East  (e.g., China Airlines, Etihad Airways, and Emirates) that they assert  receive government support. Representatives from one network airline  told us that by losing traffic to these airlines abroad, domestic network  service could be affected as well as the financial health of the domestic  airline industry. Additionally, the Future of Aviation Advisory Committee  report to the Secretary of Transportation noted that U.S. airlines are  facing restrictive aviation agreements in growing markets in Asia and  South America and face entry barriers—such as slot restrictions, air  space limitations, and local ground-handling rules—that increase their  operating costs and stifle competition.
section_title: Stakeholders Offered a Limited Range of Potential Federal Actions to Address Challenges, and Differed on Priorities
paragraphs: Stakeholders offered contrasting perspectives regarding the role of the  federal government in addressing the competition challenges they  identified. Actions recommended by stakeholders who supported a  federal role in addressing competition challenges were in most cases  directed at narrow issues within the industry, as federal action is  inherently limited in a deregulated industry. Further, because the structure  of the airline industry is evolving, the full competitive effects of industry  consolidation are unknown.
Certain stakeholders we spoke with, including an industry analyst and  airline representatives, were opposed to any federal actions to further  enhance competition in the market. For example, according to  representatives from one network airline, concerns about a competitive  environment dominated by four large airlines do not mean that the federal  government should interfere with the mechanics of the market.
Conversely, seven stakeholders were supportive of a federal role, but  prioritized different actions to address concerns about competition. A  majority of stakeholders did not identify any of the potential actions as the  most critical for the federal government to take.
Reducing barriers to entry: Several industry stakeholders drew  attention to reducing barriers to entry. For example, one airport  authority said that slot controls should be removed to maximize  capacity and encourage competition at New York and Washington,  D.C. airports. We have also recommended that FAA improve its  administration of the slot control rules to enhance competition through  greater transparency and airline access to slots. Additionally, two  stakeholders supported either eliminating airline loyalty programs or  taxing their benefits as a means to increase competition among  airlines. The Internal Revenue Service announced in 2002 that it does  not plan to pursue a tax enforcement program regarding promotional  benefits such as frequent flyer miles. As a result, employees are  currently able to keep mileage earned from flights that are paid for by  their employer without being taxed for the value. Taxing benefits  from airline reward programs, according to these stakeholders, would  enhance competition by enabling airlines to compete route-to-route  without regard to the extra benefit of frequent flyer miles.
Increasing fare transparency: The three travel industry  organizations and two consumer advocacy organizations we  interviewed supported a stronger federal role in increasing  transparency and competition within the industry by encouraging DOT  to continue to finalize its proposed rulemaking on reporting ancillary  revenue to help ensure that passengers are aware of the full cost of  travel—including ancillary fees—at the time of purchasing a ticket.
Mitigating anticompetitive effects of consolidation: To address  any adverse effects industry consolidation has had on competition,  two consumer advocacy and travel industry organizations argued that  Congress should repeal a preemption provision in the Airline  Deregulation Act of 1978, as amended. This provision prohibits states  or their political subdivisions from enacting or enforcing any law,  regulation, rule, or other provision having the force and effect of law  related to the price, route, or service of an airline. The consumer  advocacy and travel industry organizations argued that such a repeal  would allow states to sue airlines to enhance consumer protections.  Since the industry was deregulated in 1978, air transportation has  been almost exclusively under federal oversight. The Airline  Deregulation Act’s preemption provision has been interpreted by the  U.S. Supreme Court to preempt regulation of airline fare advertising  under state consumer protection laws. The consumer advocacy and  travel industry organizations argued that lifting this preemption  restriction and allowing state attorneys general to sue airlines would  increase discipline and benefit consumers. Additionally, one academic  and research expert and a travel industry organization we spoke with  recommended that DOJ conduct post-merger analyses to determine  whether mergers have delivered the benefits, including efficiencies  and cost savings, airlines have promised in advance.
Addressing global competition challenges: Several consumer  advocacy and travel industry organizations recommended that the  federal government place more scrutiny on international alliances by  conducting regular reviews to evaluate the effects of antitrust  immunity. Two stakeholders supported a federal role in helping U.S.  airlines compete in the global market as they assert government  support and minimal regulatory burdens in some foreign countries  give airlines like Etihad Airways, Emirates, and Qatar Airways from  Persian Gulf states a competitive advantage over U.S. airlines. One  industry trade association and representatives from one network  airline we spoke with were supportive of policies that would enable  U.S. airlines to more effectively compete with international airlines.  These stakeholders advocated ensuring that U.S. Open Skies  policy—agreements that the U.S. signs with other countries to allow  airlines access to international markets—contain provisions that  support high labor standards and protect U.S. aviation jobs, and reject  any new or increased taxes or fees on the airline industry.
section_title: Agency Comments
paragraphs: We provided a draft of this report to DOJ and DOT for review and  comment. Both DOJ and DOT provided technical comments that we  incorporated as appropriate.
We are sending copies of this report to the Attorney General of the United  States, the Secretary of Transportation, and the appropriate  congressional committees. In addition, the report will be available at no  charge on GAO’s website at http://www.gao.gov.
If you or members of your staff have questions about this report, please  contact me at (202) 512-2834 or flemings@gao.gov. Contact points for  our Offices of Congressional Relations and Public Affairs may be found  on the last page of this report. Major contributors to this report are listed  in appendix III.
section_title: Appendix I: Objectives, Scope, and Methodology
paragraphs: The objectives of this report were to examine (1) how the financial health  of the U.S. airline industry has changed since 2007; (2) changes to the  structure of the market since 2007; (3) how consumers have been  affected by changes in the financial health and market structure of the  U.S. airline industry; and (4) what stakeholders believe are the key  challenges to airline competition and actions the federal government  could take to address these challenges.
To examine changes to the financial health of the domestic airline  industry since 2007, we analyzed airline financial and operational data,  reviewed relevant studies, and interviewed industry experts. We divided  the airline industry into network, low-cost, and regional airlines. While  there is variation in the size and financial condition of the airlines within  these groups, there are more similarities than differences. The eight  network airlines have adopted hub-and-spoke network models, which can  be more expensive to operate than point-to-point service. Low-cost  airlines are typically smaller, and generally employ a less costly point-to- point service model. The eight low-cost airlines (AirTran Airways,  Allegiant Air, America West Airlines, Frontier Airlines, JetBlue, Southwest  Airlines, Spirit Airlines, and Virgin America) had consistently lower unit  costs than the eight network airlines (Alaska Airlines, American Airlines,  Continental Airlines, Delta Air Lines, Hawaiian Airlines, Northwest  Airlines, United Airlines and US Airways). We also included the 30  regional airlines that account for 99 percent of passengers on regional  airlines in 2012. These airlines operate smaller aircraft and provide  service to smaller communities. We utilized Department of Transportation  (DOT) Form 41 financial and operational data submitted to DOT by U.S.  passenger airlines for the years 2007 through 2012 as these were the  most recent and complete annual data. All dollar figures in this report are  nominal unless otherwise noted. We analyzed these data using various  metrics for airline financial performance identified from our previous work.  We obtained these data from Diio, a private contractor that provides  online access to U.S. airline financial, operational, and passenger data  with a query-based interface. To assess the reliability of these data, we  reviewed the quality control procedures used by Diio and DOT,  interviewed DOT officials responsible for data collection efforts, and  subsequently determined that the data were sufficiently reliable for our  purposes. We also reviewed government and expert data analyses,  research, and studies, as well as our own previous studies. The expert  research and studies, where applicable, were reviewed by a GAO  economist or were corroborated with additional sources to determine that  they were sufficiently reliable for our purposes. Finally, we conducted  interviews with airline representatives, industry trade associations,  industry analysts at credit rating agencies and financial services firms,  and other industry stakeholders (see table 4 below). The analysts and  experts were identified and selected based on a literature review, prior  GAO work, and recommendations from within the industry. See below for  a description of our method for selecting these stakeholders.
To examine how the airline industry’s market structure has changed since  2007, we analyzed data from DOT’s Origin and Destination Survey, which  includes fare and itinerary information on every 10th airline ticket sold;  reviewed academic studies assessing competition; and interviewed DOT  officials, airline representatives, and aviation industry stakeholders. The  data sample comprises approximately 91,000 airport-pair markets for  each calendar year 2007 through 2012. We excluded tickets with  international, Alaskan, or Hawaiian destinations. We eliminated Alaskan  and Hawaiian destinations because cost and competitive conditions  involving these destinations are likely to be considerably different than  routes within the continental U.S. and therefore it was not appropriate to  include these types of routes in our analysis. Since only the airline issuing  the ticket is identified, regional airline traffic is counted under the network  parent or partner airline. To assess the reliability of these data, we  reviewed the quality control procedures used by Diio, our data provider,  and DOT, interviewed DOT officials responsible for data collection efforts,  and subsequently determined that the data were sufficiently reliable for  our purposes. To analyze changes in the number of effective competitors  and market concentration, we performed a number of steps to aggregate  and filter the data. First, since the ticket data contain one-way-direction  ticket information, we combined data on one-way trips traveling in either  direction for a given market defined by two cities (or airports). For  example, we combined the traffic going from Lehigh Valley International  Airport (ABE) to Abilene Regional Airport (ABI) with traffic travelling from  ABE to ABI to obtain a total passenger count of all traffic between the two  airports. Second, we filtered the data to include only those airport-pair  markets with at least 520 passengers in one direction or 1,040  passengers for round-trip traffic because markets with fewer passengers  would be too small to ensure statistical accuracy. This filter removed 6  percent of the passengers from the full dataset. Next, we defined an  effective competitor as an airline with at least 5 percent of total traffic.  These are the same minimum passenger and market share filters that we  have previously used to assess whether an airline has sufficient presence  in a market to affect competition. Finally, we created separate market- level data sets based on two different market definitions: 1) airport-pair  and 2) city-pair as defined by DOT. The most straight-forward definition  of a market is the airport-pair, or travel between two airports. However,  the largest cities often contain several commercial airports that compete  for passengers, and are in some cases treated as a single destination.  This analysis focused on domestic city-pair markets, which represent air  transportation between two cities. City-pair markets are typically viewed  as the basic, relevant market for airline travel in the U.S.
For each version of the data, we calculated (1) the proportion of total  passengers carried by each airline in the market; (2) the weighted and un- weighted average number of effective competitors (defined as having at  least 5 percent of total passenger traffic in the market); and (3) the  average Herfindahl-Hirschman Index (HHI), which is a measure of the  level of concentration in a market and provides an indication of changes  in the level of competition. HHI is calculated by squaring the market share  of each airline competing in the market and then summing the results. For  example, a market consisting of four firms—two of which have market  shares of 30 percent and two of which have market shares of 20  percent—has an HHI of 2,600 (30 + 20 = 2,600). To analyze  changes in the average number of effective competitors and  concentration based on the size of the passenger markets, we divided  markets into quintiles based on the total passengers across all markets.  This means that each quintile had roughly 20 percent of the total  passengers, but the number of markets in each quintile varied. These  numbers also varied each year. For example, in 2012, we analyzed  10,434 city-pair markets representing about 411 million passengers (see  table 2). In addition, we assessed the number of markets dominated by a  single airline and the number of non-dominated markets for each quintile.
We also divided markets into quintiles based on the total number of  markets to gain additional understanding of changes in the smallest  markets. This means that we assigned markets into quintiles in such a  way that there were equal numbers of markets in each quintile, but  varying number of passengers, as shown in table 3 below.
In addition, to analyze the data by distance, we grouped the markets into  five distance categories: 0-250 miles; 251-500 miles; 501-750 miles; 751- 1000 miles; and 1,001 miles and over.
To determine changes in the structure of the market at the airport level,  we analyzed DOT T-100 enplanement data for 2007 through 2012 to  examine changes in passenger traffic among the airlines at each airport.  The T-100 database includes traffic data (passenger and cargo) and  operational data for U.S. and foreign airlines traveling to and from the  United States. These data represent a 100 percent census of all traffic.  To assess the reliability of these data, we reviewed the quality control  procedures used by DOT, interviewed DOT officials responsible for data  collection efforts, and subsequently determined that the data were  sufficiently reliable for our purposes. We also evaluated the airlines’  shares of total airport passengers and calculated an airport-level HHI.
To determine how consumers have been affected by changes to the  airline industry, we also assessed DOT T-100 enplanement data for 2007  through 2012 on service levels to large-, medium-, small-hub, and nonhub  airports, reviewed academic studies and expert research, and conducted  interviews with DOT and DOJ officials, six academic and research  experts, representatives from five airlines, five travel and consumer  advocacy organizations, four industry trade associations, and one airport  authority (see table 4 below).
Finally, to identify what stakeholders believe are the key challenges to  competition and what actions the federal government could take to  address these challenges, we interviewed six academic and research  experts, representatives from five airlines, five travel and consumer  advocacy organizations, five industry analysts, four industry trade  associations, and one airport authority. Although the focus of our report is  the domestic airline industry, we have included international issues raised  by some stakeholders because they viewed these issues as having  implications for competition in the domestic airline industry. We identified  and selected these stakeholders based on prior GAO work, a review of  relevant academic literature, and expertise in their field. The expert  research and academic studies, where applicable, were either reviewed  by a GAO economist or corroborated with additional sources to determine  that they were sufficiently reliable for our purposes. The views of the 26  stakeholders should not be used to make generalizations about the views  of all airline competition stakeholders, but do provide a range of  perspectives on issues affecting the industry. In addition, we reviewed  relevant studies and documentation from these stakeholders, and prior  GAO and other government reports.
We conducted this performance audit from May 2013 through June 2014  in accordance with generally accepted auditing standards. Those  standards require that we plan and perform the audit to obtain sufficient,  appropriate evidence to provide a reasonable basis for our findings and  conclusions based on our audit objectives. We believe that the evidence  obtained provides a reasonable basis for our findings and conclusions  based on our audit objectives.
section_title: Appendix II: Results of Market Structure Analysis for the U.S. Passenger Airline Industry, 2007–2012
section_title: Appendix III: GAO Contact and Staff Acknowledgments
subsections: section_title: GAO Contact
section_title: Staff Acknowledgments
paragraphs: In addition to the contact named above, the following individuals made  important contributions to this report: Paul Aussendorf, Assistant Director;  Amy Abramowitz; Sara Arnett; Jon Carver; Leia Dickerson; Geoff  Hamilton; Delwen Jones; Mitch Karpman; SaraAnn Moessbauer; Josh  Ormond; Dae Park; and Justin Reed.