The Airline Deregulation Act of 1978 has led to lower fares and better service for most air travelers, largely because of increased competition. The experiences of millions of Americans underscore the benefits that have flowed to most consumers from the deregulation of the airline industry, benefits that include dramatic reductions in fares and expansion of service. These benefits are largely attributable to increased competition, which has been spurred by the entry of new airlines into the industry and established airlines into new markets. At the same time, however, airline deregulation has not benefited everyone; some communities have suffered from relatively high airfares and a loss of service. The airline industry is a complex one that has experienced years of sizable profits and great losses. The industry’s difficulties since September 11, 2001, do not represent the first time that airlines have faced a significant financial downturn. In the early 1990s, a combination of factors (e.g., high jet fuel prices due to Iraq’s invasion of Kuwait and the global recession) placed the industry in turmoil. Between 1990 and 1992, U.S. airlines reported losses of about $10 billion. All major U.S. airlines except Southwest reported losses during those years. In addition, several airlines—most notably Braniff, Eastern, and Pan Am—went out of business, and Trans World Airlines, Northwest Airlines, and Continental Airlines entered bankruptcy proceedings. By the start of 1993, the industry had turned the corner and entered a period during which nearly all major U.S. airlines were profitable. The industry rebounded without massive federal financial assistance. The events of September 11th accelerated and aggravated negative financial trends that had begun earlier in 2001. Congress responded quickly to address potential instability in the airline industry by enacting the Air Transportation Safety and System Stabilization Act. Among other things, that act authorized payments of $5 billion in direct compensation (grants) to reimburse air carriers for losses sustained as a direct result of government actions beginning on September 11, 2001, and for incremental losses incurred between September 11 and December 31, 2001 as a direct result of the terrorist attacks. The act provided $10 billion in loan guarantees to provide airlines with emergency access to capital and established the Air Transportation Stabilization Board (the Board) to administer the loan program. The Board is tasked not only with providing financial assistance to airlines but also with protecting the interests of the federal government and American taxpayer. The act requires the Board to ensure that airlines are compensating the government for the financial risk in assuming guarantees. This requirement defines the loan guarantee as a mechanism for supporting airlines with reasonable assurances of financial recovery. In addition to the grants and loan guarantees, the federal government has also established other ways to ease the airlines’ financial condition. Many major U.S. passenger airlines are experiencing their second consecutive year of record financial losses. In 2001, the industry reported a net loss of over $6 billion, even after having received $4.6 billion from the federal government in response to September 11th. For 2002, some Wall Street analysts have projected that U.S. airline industry losses will total about $7 billion, but this projection may worsen in the event of additional armed conflict, particularly if this results in decreasing travel demand and rising fuel prices. According to industry data, airlines’ revenues have declined 24 percent since 2000, while costs have remained relatively constant. US Airways and Vanguard Airlines filed for Chapter 11 bankruptcy during this summer. United Airlines officials stated that they are preparing for a potential Chapter 11 bankruptcy filing this fall. Furthermore, some Wall Street analysts predict that it will likely take until 2005 for the industry to return to profitability. Attachment I summarizes the financial condition of major network and low-fare carriers. Major airline carriers’ revenues have fallen because of a combination of a decline in passenger enplanements and a significant decrease in average fares. As figure 1 shows, major carriers’ enplanements increased for every quarter of 2000 compared to the same quarter of the previous year, but flattened in the first quarter of 2001 and then dropped, with the steepest drop occurring in the quarter following September 11, 2001. Over the same period, major airlines have also received lower average fares. Data from the Air Transport Association indicate that the average fare for a 1,000-mile trip dropped from $145 in June 2000 to $118 in June 2002, a decrease of about 19 percent (see fig. 2). Average fares started dropping noticeably in mid-2001 and have not risen significantly since. Industry data suggest that the decline is due to the changing mix of business and leisure passenger traffic, and particularly to the drop in high- fare business passengers. Through June 2002, all major network carriers generated negative net income, while low-fare carriers Southwest Airlines, JetBlue, and AirTran returned positive net income. Like the major carriers, these low-fare carriers’ passenger enplanements dropped in the months immediately following September 2001. Attachment II summarizes passenger enplanements for individual major and low-fare carriers for 2000, 2001, and the first 5 months of 2002. Why have some low-fare carriers been able to earn positive net income in current market conditions, while network carriers have not? The answer seems to rest at least in part with their fundamentally different business models. Low-fare carriers and major network carriers generally have different route and cost structures. In general, low-fare carriers fly “point- to-point” to and from airports in or near major metropolitan areas, such as Los Angeles, Chicago, and Baltimore-Washington. In comparison, major network carriers use the “hub and spoke” model, which allows them to serve a large number of destinations, including not just large cities, but small communities and international destinations as well. American Airlines, for example, can carry a passenger from Dubuque, Iowa, through Chicago, to Paris, France. Low-fare carriers have also been able to keep costs lower than those of major airline carriers. For example, 2002 data reported by the carriers to DOT indicate that Southwest’s costs per available seat mile (a common measure of industry unit costs) for one type of Boeing 737 is 3.79 cents. For the same aircraft type, United Airlines reported a cost of 8.39 cents— more than twice the cost at Southwest. All airlines are now entering an environment in which some of the costs of doing business have increased. The federal Transportation Security Administration has taken over responsibility for many security functions for which airlines previously had been responsible. The Air Transport Association (ATA) estimated that the airline industry spent about $1 billion for security in 2000. Despite the shift in functional responsibilities, airlines have stated that they continue to bear the costs of other new federal security requirements. In August 2002, Delta Air Lines estimated the cost of new federal security requirements that it must bear to be about $205 million for 2002. This includes the cost of reinforcing cockpit doors, lost revenues from postal and cargo restrictions, and lost revenues from carrying federal air marshals. To address mounting financial losses and changing market conditions, carriers have begun taking a multitude of actions to cut costs and boost revenues. First, many carriers have trimmed costs through staff furloughs. According to the Congressional Research Service, carriers have reduced their workforces by at least 100,000 employees since last September. Further, some carriers, including United Airlines and US Airways, have taken steps to renegotiate contracts in order to decrease labor and other costs. A US Airways official stated that its renegotiated labor agreements would save an estimated $840 million annually. Carriers have also grounded unneeded aircraft and accelerated the retirement of older aircraft to streamline fleets and improve the efficiency of maintenance, crew training, and scheduling. Carriers accelerated the retirement of both turboprops and a variety of larger aircraft, including Boeing 737s and 727s. For example, United and US Airways retired the Boeing 737s used by United’s Shuttle service and US Airways’ MetroJet system, and the carriers discontinued those divisions’ operations. Industry data indicate that the airlines have parked over 1,400 aircraft in storage, with more than 600 having been parked since September 2001. Although carriers had begun reducing capacity earlier in 2001, those reductions accelerated after the terrorist attacks. Between August 2001 and August 2002, major carriers reduced capacity by 10 percent. Carriers can decrease capacity by reducing the number of flights or by using smaller aircraft, such as replacing mainline service with regional jets, which are often operated by the network carrier’s regional affiliate and normally have lower operating costs. For example, American Airlines serves the markets between Boston, New York (LaGuardia), and Washington, D.C. (Reagan National) only with regional jet service provided by its affiliate, American Eagle. Another way carriers have reduced capacity is to discontinue service to some markets, primarily those less profitable, often smaller communities. Our previous work showed that the number of small communities that were served by only one airline increased from 83 in October 2000 to 95 by October 2001. Between September 2001 and August 2002, carriers had notified DOT that they intend to discontinue service to 30 additional communities, at least 15 of which were served by only one carrier and are now receiving federally- subsidized service under the Essential Air Service (EAS) program. Some carriers are modifying their “hub and spoke” systems. American is spreading flights out more evenly throughout the day instead operating many flights during peak periods. American began this effort in Chicago and has announced that it would expand its “de-peaking” efforts to its largest hub at Dallas/Fort Worth beginning November 2002. American officials stated that these changes would increase the productivity of labor and improve the efficiency of gate and aircraft use. Delta officials said they are also taking steps to spread flights more evenly throughout the day. Beyond the steps individual carriers are taking to restructure and cut costs, some carriers are proposing to join forces through marketing and codesharing alliances in order to increase revenues.