Friday, June 4, 2010

We Might Decide to Fly

New York Times editorial "We Might Decide to Fly" (June 3rd, 2010) suggests that government regulation may improve the flying experience for consumers. Perhaps, but consumer surplus will fall.
The Obama administration’s new consumer protections for beleaguered airline passengers — including higher compensation for travelers bumped from oversold flights and prominent disclosure of all service fees — are much needed.
The airline industry is widely considered competitive, so airlines do not make profit, but instead charge each consumer the cost of providing his seat on the airlplane. If the government increases this cost, by requiring them to invest resources into making sure fewer customers are bumped from flights, for example, then the airlines will have no choice but to pass this cost increase directly to consumers. As shown in the graph below, total consumer surplus--the sum of benefit that all consumers receive from flying, will decrease from the entire shaded triangle to the yellow shaded triangle.
Even if we allow for the argument that airlines have some monopoly power, regulation may harm consumers more than it helps them. This is because monopolies also pass some portion of any cost increase to consumers. The amount of this increase depends on the response of demand to price changes. Again, as depicted below, consumer surplus will decrease. This will overwhelm the gains in service to consumers, due to the mechanics of monopoly profit maximization.

1 comment:

  1. It seems to me that there are many behaviors from an airline as a service provider that one could be happy or sad about - getting bumped is one but cleanliness, courtesy, seat width and legroom, type of plane and the all important criteria of where there is space to put your luggage, on time percentage etc all can matter to one extent to customer A and with a different weighting to customer B. Politicians who are unhappy with one particular aspect may have the power to penalize it but they force trade-offs that may in fact be worse to other customers. Far better to let the airlines provide their service, have customers make their own calculation of whether they like the overall experience or not and then vote with their dollars - doing businesses with airlines who provide the best deal for their money - without the distortion of politician generated pet peeves.