Harsh realities

In the case of the ACCC on one had it rejects the VB-Air NZ tie up but agrees the South African Airways / Qantas code-share on routes where there has been no competition for years and only a brief sortie by V Australia.

The ACCC also continues to approve – as it should – the tie up between BA and QF on the kangaroo route yet rejects Air Canada and Air NZ code-sharing over the Pacific to Australia.

These mixed signals draw an “odd” comment from respected commentator Peter Harbison from the Centre of Asia Pacific Aviation.
Harbison highlights that only a few years back the Australian High Court overturned an ACCC rejection of a more comprehensive agreement between Qantas and Air New Zealand, the dominant players on the Tasman, and the deal only fell apart because the New Zealand process didn’t allow new evidence in the appeal.

He also questions the ACCC’s label of a maverick for Virgin Blue. “In this case Pacific Blue has already decided to pull out of the domestic New Zealand market after losing some $20 million in two years and has typically been very cautious in its entry to the “bloodbath” of the Tasman market. It seriously questionable whether there is evidence to suggest that has been – or, much less likely, will be – the carrier’s role here.”

In fact the maverick title for low fares has now been taken by Jetstar across the Tasman. Harbison adds that rather than maverick VB’s position is “precarious in the Tasman marketplace.”

The US Department of Transport decision is govern by the Deregulation Act of 1978 and the architect of that act Alfred Khan admitted years later that he got it wrong in relationship to economies of scale in the airline industry. Khan said: “Every study we have made seems to show there are not economies of scale,” but later admitted that he was “misled by the apparent lack of evidence of economies of scale.”
And this is where the airlines may getting it wrong when they argue their cases to competition regulators.

The author has been surprised and disturb by the apparent lack of understanding at some airlines os the real drivers of the industry and the lack of use of historical evidence that would prove the value of alliances.

Aside from the obvious economies of scale, there is:
1. Wasteful duplication of services
2. Competition from tourist destinations –snowfields or tropical beaches – that keeps fares low
3. More services by pooling
4. Significant cost cutting by eliminating stops in Sydney or Auckland
5. Historic evidence of fare reductions even during monopolies

The last point is significant.

Since the demise of Ansett in 2001, Qantas has enjoyed a monopoly on business class in Australia yet the business class index has moved only slightly upwards over the nine years, while average weekly earnings have jumped by more than 50 per cent.

And from 1989 to the late 1990s when Qantas had a stake in Air New Zealand and code shared across the Tasman, airfares dropped by 26 per cent.

However in many cases, airlines themselves are to blame for the regulatory mess because they almost always object to competitors getting together. Perhaps it’s time for them to take a more holistic view of what is best for the industry not themselves.

The ACCC appears to be ignoring the global trend for major consolidation such as Lufthansa’s collection of airlines and the emerging BA International Airlines Group that will be the umbrella for up to 12 airlines.

With more than 1000 airlines in the world the industry is hopelessly fragmented despite the best efforts of IATA and needs an holistic government approach to re-write competition regulation as it applies to airlines.

Clearly US de-regulation has been a failure and much of the competition policy around the globe is based on what is a failed system.
The age old mantra that “since 1978 passengers numbers have gone up and fares come down therefore deregulation is a success” is a nonsense.

The reality is that passenger numbers have gone up and fares come down every year since records were kept in 1929!!

In fact since deregulation started in the US both passenger growth and fare reductions have slowed.

In an interview in 1983 Khan said: “There is a lot of turmoil [in the airline industry] but that is what we intended.”

The airline industry does not need any more turmoil!

Virgin Blue CEO, John Borghetti might want to take the weekend off. He certainly shouldn’t be heading for the casino. In the space of two days, two key planks of the carrier’s cooperation strategy, with Delta and Air New Zealand, appear to be under serious threat. A few days ago they looked relatively safe and were on the way to making the Virgin Blue Group a serious competitive force against its much larger competitor, Qantas.

Today, the Australian Competition and consumer Commission (ACCC) tentatively decided that “the alliance is likely to reduce competition in the market for trans-Tasman air passenger services,” arguing that “Virgin Blue is a significant competitor to Air New Zealand and there are a number of trans-Tasman routes where the alliance raises competition concerns. These routes account for around one quarter of passenger traffic in the trans-Tasman market. This means that more than one million passengers per year may be adversely affected by the removal of competition between Virgin Blue and Air New Zealand.”

As a consequence, the parties will have to work hard to change the Commission’s mind.

The ACCC determination is odd in several ways.:

(1) The Qantas-Air New Zealand proposal was approved

Perhaps the most striking feature is that only a few years ago a much more far-reaching Qantas-Air New Zealand proposal to cooperate on the Tasman was only disallowed because the New Zealand Commerce Commission rejected it – mainly on the grounds of reduced domestic NZ competition. At the time the two airlines held an 80% market share. It is hard to fathom why that proposal would be acceptable for the Australian authorities if Virgin Blue’s – apparently much more modest one – is not (although that proposal first went through the process of an appeal to the Competition Tribunal on the Australian side, after the ACCC first rejected it).

(2) Virgin Blue as a “maverick” – does the evidence bear this out?

A maverick in these terms has the propensity to “disrupt coordination by initiating price wars, aggressively discounting or by not following rivals attempts to raise the market price”, according to the ACCC’s draft determination.

In fact, an earlier short examination by the Centre, of pricing behaviour around the time the application was made showed that the higher cost Virgin Blue product was being priced in the dangerous position of halfway between Jetstar’s and the Qantas and Air New Zealand fares. See related report: Virgin Blue-Air New Zealand “cooperation”. A game-changer – perhaps

(3) The Tiger role

There was broad opposition to the proposal from directly affected interests, like Tiger Airways, which saw an enhanced competitive threat, and airports such as Dunedin, where Air New Zealand and Pacific Blue are the only two operators. This latter is undoubtedly a concern for that airport and its city pair connections, but competition bodies, taking a wider view of the market, can usually see beyond that and even separate out the particular ingredients of a route or destination in its approvals.

Tiger’s position is different. It clearly does not want to see a more powerful set of opposition, right across the board. Yet, from the ACCC’s position it is odd that there was no detailed consideration of the potential role of Tiger – the real maverick in the market – with its lower costs and different product, if prices were to get out of line on the Tasman. The threat of entry is necessarily a real feature, especially as Tiger grows its bulk in the Australian market.

(4) All parties agree that the Tasman competition is currently unsustainable

Such a statement of course needs to be taken in context. The entire global aviation industry in its present form is unsustainable. But that doesn’t mean that it is not a good place for consumers – quite the reverse. And, as liberalisation spreads, the prospect of market exit improves. (That is a key factor for improving the viability of the industry, as market entry is in fact relatively easy; but as long as large old airlines are propped up by their governments, genuine economic viability is a difficult target.)

But here the situation is very different. Qantas and its strategically valuable subsidiary, Jetstar, hold 65% of the Australian market and nearly 90% of the corporate business. In reality, Virgin Blue is fighting to establish a permanent foothold in Australia as a serious full service competitor. It is a listed airline that has no necessary claim on perpetuity.

These are not issues that fall directly into the scope of an ACCC determination. The competition laws under which the Commission must work tend to have narrow scope and don’t necessarily lead to outcomes that “market logic” would suggest.

Nonetheless, there would have to be a reasonable prospect at least that this draft determination, if confirmed, will head straight for appeal at the Competition Tribunal, where, on the precedent of the Qantas-Air New Zealand decision, a more favourable outcome is likely.

The trouble with that, even assuming a positive result, is that it chews up more time. For very good reasons, Virgin Blue and Mr Borghetti, are keen to move fast. And they need a better run of luck.

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