The Issues Facing the European Airline Market Competition

Document Sample
The Issues Facing the European Airline Market Competition Powered By Docstoc
					Revamping the European Airline Market: The Current Measures of the European

                            Nicholas H. Campiz

                       Politics of the European Union
                                 Spring 2004
Nicholas Campiz
Final Essay

       Q. What is the European Union doing to help European airlines adapt to the
           changing landscape of the airline industry?
       A. The European Union, mainly through the Commission, is aiding the
           development of a more efficient airline system, as well as a more efficient air
           industry infrastructure.

       Airlines are a funny creature in the business world. Very few industries are

allowed to operate in the manner many national carriers do. They are traditionally known

as loss-inducing, perpetually-struggling, never-in-the clear companies. Airlines for a

while were controlled for under the auspices of the respective national government, who

controlled, funded or subsidized these airlines as a public service. After several waves of

privatization in the 70‟s and 80‟s, these carriers are still in the same precarious positions,

in theory free of excessive government control. However, once again, airlines are a funny

thing, and they are an industry that banks a great deal on the sentiment of nationalism,

along with a few others such as a telecommunications, defense, and banking.

       When the attacks of September 11 occurred in the United States, the federal

government approved billions of dollars to bail out the big national airlines, some already

treading a fine line with solvency, from the hammer blow that was delivered to them.

Some say this was necessary to prevent one or more national carriers from going under in

the time of dramatic losses in passenger revenue. Others felt that a shakedown of the

industry was needed because the US carriers were often-times seen as redundant and

stepping on each other‟s feet. The Big 6 carriers all survived, though not without austerity

measures, and not without talks of blockbuster mergers swirling around the business

world and the Justice Department.
        Why did I just give a rundown of the airline situation in the United States? It was

done mainly to juxtapose it with the situation in Europe, one with many more airlines in

the pot, with many more constraints in the system, and many more nationalistic

heartstrings to pull at. Europe also experienced the great downswing in air traffic before

September 11, and it too saw its big airlines struggle tremendously. And unlike in the

United States, there were airlines that did succumb to the adverse business climate.

Swissair, once regarded as one of the finest airlines in the world, was the first to fail, after

it‟s government allowed it to die. As a major shareholder in the Belgian national carrier,

Sabena, the Brussels-based airline lost a major source of funding and it too soon went

under. While national governments did for the most part buttress their “national” airlines,

much to the chagrin of the upstart rivals from privatization, many saw this as a wake up

call to address the needs and issues of the airline industry on a continent-wide scale as the

traditional airline industry was struggling hard to no longer appear as an anachronism.

        With the timing purely coincidental, on September 12, 2001, the European

Commission released a White Paper entitled “European transport policy 2010: a time to

decide.” Clearly it was a 10-year plan to revamp the European transport system to better

accommodate its citizens. While the action plan called for the major improvements of the

road ways to reduce congestion and for a renaissance in the railways, which it called

upon to start linking major transport trunks across the breadth of Europe, the section on

airlines was entitled “Controlling the Growth in Air Transport.” Needless to say, on first

reaction, the airline industry was none too happy about the White Paper. However the

plan did point out, in a genial manner, the major restructuring needed by the airline

industry to remain competitive in the new atmosphere of travel. I think the report hit the
proverbial nail on the head (or I should rather say three nails on the head) in what is

needed for the reform of the European sky. This essay will examine the arguments

surrounding the three main points the DG Transport and the EC pointed out. The first is

the need for the reduction of “nationalist” tendencies with the further integration and/or

merger of these airlines throughout the EU. The second deals with a common voice in

dealing with the United States on transatlantic routes – a major source of income and

profit for the big carriers. The third deals with the setting up of a common European sky,

with the hopes of consolidating the patchwork air control system across Europe, and with

the goal of minimizing the inherent safety concerns of the current system while

harmonizing the flow of aircraft through European airspace.

       The Commission does not call for anything drastic in its White Paper, and for the

most part only seeks to minimize the redundancies inherent in the European air system.

The first major issue the Commission, as well as many stockholders and industry

insiders, would like to see would be the further integration of the airlines within Europe.

The merger-mania never caught on in the airline industry, and by the turn of the 21 st

century, there were no cross-national mergers of airlines in Europe (The Guardian.

2003). The Scandinavian Air System (SAS), serving as the chief airline of Denmark,

Sweden, and Norway, was probably the closest thing Europe has gotten to this ideal.

However according to SAS‟s website, this process of merger happened in 1946, making

it a long time since Europe has seen a blockbuster international airline merger.

       At the turn of the millennium, even before September 11, there was a serious

possibility of a major consolidation of the American airline market, with American close

to a deal on TWA (Winston, 1998), and United and US Airways flirting with one another
(though the Justice Department frowned upon the possibility). This fanned a serious buzz

about the possibility of merger throughout European airlines, though some of it involved

transatlantic pairings (British Airways and American). Swissair was eager to expand past

the Alps, hence the large share in Sabena, though this never materialized because of

September 11. Alitalia had earlier cried out to be acquired, stressing its attractive links to

the Mediterranean, though previous tries with KLM fell through because of an

unattractive bureaucracy and government oversight in Italy (Dienel 1998).

       British Airways also eyed KLM, the prestigious, though debt-ridden Dutch

national carrier to further it‟s reach into Europe and provide it with a new transatlantic

hub (expansion at Heathrow is a nightmare), giving it more feeder flights for the lucrative

American market. The deal fell through with the CEO‟s issuing a joint statement which

underscores the difficulty of an intercontinental merger:

           "We always recognized that this would be a complex transaction,

           involving not only commercial and economic issues, but also

           aeropolitical, regulatory and other matters. Although we made

           considerable progress, it has not been possible to resolve these."

       Speaking of aeropolitics, the inherent difficulties in mergers was seen in the 15

year courtship of BA and American Airlines, as regulators on both sides of the Atlantic

were keen to shoot the deal down, on antitrust grounds. These difficulties sparked a wave

of airline alliances which proliferated around the world, as they had a much easier time

passing through regulators. While these alliances seemed to be a step in the right

direction, they did not fully address the flaws of the European airline industry (Sinda

2001), still leaving segregated national systems with redundancies on intercontinental
flights as well as transatlantic routes skewed to the US (more in the next section). First

off, these alliances, which allowed code-sharing and the pooling of passengers, were

usually formed around a US-European pairing, such as the Star Alliance‟s United and

Lufthansa or the oneworld alliance‟s BA and American (always attached at the hip).

Several other airlines were tacked on to each to further enhance the passenger options,

usually smaller regional airlines. Also these alliances didn‟t address the top-to-bottom

restructuring and fusion a merger would bring. Just recently Air France and KLM

announced that they will soon partake in the first major merger of big European airlines,

though it is not as complete as they would like to see, because of fear of regulatory

reprisals, especially from the United States (Hanson. 2001). The cost cutting nature of a

merger is thus marginalized to address the multitude of issues, not the last of which is the

woeful cry of the Dutch people who claim that the “Air France takeover is a blow to that

„orange feeling‟.” (The Guardian) As one can see, mergers are going to be tough and

tricky and not optimal for quite some time until regulations are agreed upon and

nationalist tendencies are eased.

       On the issue of the much talked about “Open Skies” talks with the United States,

Europe is finally beginning to speak with one voice in the matter. For the longest time,

and for the most part still is today, the international air industry was run in a way that ran

against liberal economics (Evenett. 2000). Bilateral agreements were the modus operandi

when it came to determining who‟s planes flew in, where they could land, as well as

when they could land. While the European Union has scrapped that ideal in the bilateral

agreement, the effect of nationalism still pervades, and though airlines are free to fly

between two nations that aren‟t their own, only 3.5% of the flights flown by the national
carriers fell into this category, with about 25% of the low cost airlines flying these sorts

of routes (DG Trans. 2002).

       Going back to the issue with the United States, this nationalist tendency managed

to stick around when dealing with transatlantic flights (Scholte), as countries clung onto

their bilateral agreements with the United States. These dictated which airlines were

allowed to fly between said country and the US, as well as where exactly in the US the

airlines could fly. While some dealt with price regulation, frequencies of flights along

with the number of passengers were often addressed as well. For the most part these

partnerships favored the United States, with its multiple “flag” carriers and multiple hubs.

The European nation was often left with one “flag” carrier and one hub to operate out of

(The Economist. 2003)

       After these agreements were taken to the European Court of Justice by the

Commission, the ECJ ruled that these agreements were in breach of European law,

because they would often times forbid other European airlines from flying between the

country with the deal and the US. For example, the lucrative German-US market was

reserved for Lufthansa and LTU, violating the concept of establishment, which states that

a European company can compete anywhere in Europe, as well as the customs union.

Therefore the Council of Ministers in 2003 asked that the nations back out of these illegal

bilateral agreements in favor of a common European agreement, to be spearheaded by the

DG Transport and the Commission.

       A successful agreement would be seen as a big victory for the European air

market. However successful is a relative term, and both sides differ on how they want the

plan structured. The United States still wants to see a bilateral agreement, just for the
whole of the European Union this time, with the issues such as gateways and airlines to

be set out in the agreement. However, Europe wants a different sort of plan. What they

want is pretty much a free trade zone in the air stretching between America, Europe and

the ocean in between (Economist). Not only that, they want to be able to fly within the

US market, much like the US is able to fly its carriers within countries it has its

agreements with (Gardiner 1998). How receptive the US is to this idea is still a big

question, especially with the prospect of leaving its carriers open to full competition with

the Europeans. However, the Europeans have a few bones to throw to America to

sweeten the deal. The biggest is the allocation of landing slots at some airports, most

prominently London Heathrow, would perhaps be open to market conditions if the

Americans play their cards right, with the benefits of more US airlines (currently only

United and American are permitted to land) flying to Heathrow, as well as more landing

spots than what they have now. These spots are hot commodities and are worth millions

if opened up to market economy.

        There are plenty of skeptics to this plan and it will be closely monitored for

nobody really is sure of its outcome. While most believe it will be ultimately successful,

full liberalization will be a tough sell, with the Americans, and with some Europeans with

strong interests. This includes British Airways, who‟d like to hold onto those London

Heathrow landing rights rather than have a power grab under market forces (Nayar). The

airport at Shannon on the west coast of Ireland is guaranteed half of all American flights

entering Ireland in its current deal with the US. There is a very real possibility that the

market would fall through the floor in Shannon if “Open Skies” are implemented and

American carriers fly right past it (O‟Farrell & Guilder. 2004). However, Europe cannot
show cracks in its unity in it‟s first attempt at a unified voice in air negotiations. The

labor unions that serve the airline industry in the United States are a potent force with

precarious jobs, and they would be hard pressed to accept European airlines crisscrossing

American airspace. Needless to say, a big breakthrough isn‟t expected anytime soon, as it

is an election year in the US and the fiery DG Transportation chair will be leaving her

post soon, leaving much of the industry to wonder what is next.

       On the home front, another effort is being pushed to help further the productivity

of the European airline market. This cause, however, is more logistical and efficiency-

oriented, rather than business-oriented, though its ultimate goal is to increase the

competitiveness of all European airlines. It is the single European sky initiative, and it

sets out to harmonize the air traffic rules and regulations across Europe, with the goal of

combining all air traffic control into one continent-wide entity. Currently any pilot flying

from Brussels to Geneva must change frequencies nine times to keep in touch with air

traffic control. As national carriers grow, with their hubs swelling, as well as the raft of

new upstart low-cost air carriers that are popping up everywhere, the strain that will be

placed on the system in the near future will be tremendous.

       With congestion and delays that rival those of anywhere else in the world,

European air space was known to be an awkward patchwork of air traffic control. And in

one fiery instant, this reality hit home in the summer of 2002, when a Russian passenger

jet collided with a US cargo jet in Swiss-maintained airspace over Germany, killing 71,

mostly teenagers, with the an underlying cause being seen as the seams between Swiss

and German airspace and their differences in procedure and technology.
       As of right now the federation of 31 national air traffic controls, the IGO named

Eurocontrol, is what is trying to set continent-wide policy when it comes to air traffic

control. However, the EC wants to take over this role and provide a more coherent plan

with some authority behind it. The proposals seem reasonable and much needed, seeing

the efficiency situation of European airspace could not get much worse (Greaves).

       The Commission would use its powers to standardize the airspace above Europe,

with larger blocs of airspace managed by fewer regional service providers, with a greater

consistency in regulations and improvement standards. This would be in the hopes of

reducing the number of transfers each airliner has to pass through, as well as a greater

homogeny when it passes through these areas. Another big aspect of this initiative is the

streamlining of the routes that run over Europe. Currently airlines must divert around

everything from military airspace to black spots, or gaps in service that inherently have

developed throughout the patchwork (DG Trans 2002). These obstacles force airliners

through illogical corridors that increase flight time needed. This initiative has been kindly

received as badly needed, and the Parliament has passed a resolution to voice their

support in 2004. Time will tell on the overall success of the integration, but it looks like it

just might be easier to integrate a couple dozen air traffic systems than it is to integrate

the national airlines themselves.

       One last thing I‟d like to mention to reflect the changing landscape of the

European airline industry is the proliferation of the low cost airline. There has been an

explosion of late of no-frills airlines throughout Europe, fueled by the deregulation of

European airways mandated by the Union, leaving national affiliations to the wayside,

and letting carriers fly wherever they want. The leaders in this low cost sector are
Ryanair, based out of Ireland, and easyJet flying out of Amsterdam and Milan. These

airlines are modeled after the Southwest Airlines business models of quick turnaround,

no frills direct flights, making profits in times of yearly losses in the rest of the industry

(Economist). These low cost airlines fly to smaller, fringe airports like Stansted in

London, where they may actually be paid to land, rather than have to shell out for landing

rights. They offer one class of service, and the turnaround times can be frighteningly

quick at 20 minutes. They do not subscribe to the hub and spoke system, which can be a

great agitator to the congestion of airports, rather just saturating the direct flights to and

from more popular airports, without truly timing them to be connecting flights. All these

business practices allow them to cut costs and pass the saving onto the consumers.

        These airlines are pushing the national airlines to the limit, when it comes to

short-haul flights the big airlines are responding with low fares of their own or even

starting up and subsidizing their own low-frills carriers, much like BA has done in

Britain, France, and Germany. The threat of the low-cost carrier, as well as the new high

speed rail systems, are pushing national airlines to become leaner and more efficient,

especially in finally taking full advantage of their inherent advantages, such as favorable

landing rights at better airports or their connections with the rest of the world. The efforts

of the European Commission are also going to push national airlines to be more

responsive to market forces, with an attempt to break down the nationalist tendencies of

the current airline system. While full-blown mergers are still tricky and complicated; the

current atmosphere should be more conducive to a few well-managed mergers of the big

airlines. A common voice given to the European air industry when negotiating with the

United States should also produce dividends, as well as an added impetus to merge to
compete directly with the American carriers. Lastly, the streamlining of the airspace

above Europe should shave billions off the operating costs of the airlines as the

idiosyncrasies of the archaic system are phased out in the new single European sky. The

leadership of the Commission looks like they want the best for the troubled industry, now

it‟s up to the airlines to take what is given to them and run, or rather fly, with it.

DG Transportation and Energy. 2001. White Paper: European Transport Policy for 2010: Time to
      Decide. European Commission. Brussels

DG Transportation and Energy. 2002. Analysis of the European Air Transport Industry 2002 –
      Final Report. European Commission. Brussels

DG Transportation and Energy. 2002. A Single European Sky: Broadening Horizons for Air
      Travel. European Commission. Brussels

Manhire, Toby. 2003. Will airline merger get off the ground? The Guardian. October 2, 2003.

The Economist. Open skies and flights of fancy. October 2, 2003. London

Hanson, T., et al. 2001. Airline Merger Integration. Take-Off Checklist. Booz, Allen, Hamiltion.
       Los Angeles Parliament gives go ahead to Single European Sky. January 30, 2004.

O‟Farrell, M & Guilder, I. Open Skies must include Shannon. Irish Examiner. April 17, 2004

Sinda, D. 2001. Deregulation and liberalization of the airline industry : Asia, Europe, North
        America and Oceania. Ashgate. Burlington, Vermont

Dienel, H. [ed.].1998. Flying the flag: European commercial air transport since 1945. St. Martin‟s
        Press. New York

Evenett, S [ed.]. 2000. Antitrust goes global : what future for transatlantic cooperation?
        Brookings Institution. Washington, DC.

Refereed Articles

Nayar, B. Regimes, Power, and International Aviation. International Organization, Vol. 49, No.
       1. (Winter, 1995), pp. 139-170.

Winston, C. U.S. Industry Adjustment to Economic Deregulation. The Journal of Economic
       Perspectives, Vol. 12, No. 3. (Summer, 1998), pp. 89-110.

Greaves, R. Transport (in Current Developments: European Community Law). The International
       and Comparative Law Quarterly, Vol. 46, No. 3. (Jul., 1997), pp. 716-721.

Gardiner, R. Revising the Law of Carriage by Air: Mechanisms in Treaties and Contract
        The International and Comparative Law Quarterly, Vol. 47, No. 2. (Apr., 1998), pp. 278-
Scholte, J. Global Capitalism and the State. International Affairs. Vol. 73, No. 3, (Jul., 1997), pp.