How Airlines Take Flight: Entry Models and Mergers in the Airline Industry

Abstract

The merger of US Airways and American Airlines is the largest and most recent headline event in a turbulent period for the airline industry, and its long-term effects on market structure and consumer welfare are still unknown. To predict these effects{and, more broadly, to characterize the relationships between mergers, airline profitability, and airport presence|this paper develops reduced form and structural models of oligopoly entry in the airline industry. The models estimate a strong positive relationship between airport presence and airline profitability that is robust to changes in model specifications, suggesting that the consolidation of market activity through a merger should deter other firms from entering a given market. To quantify this effect in the context of the US{American merger, the models were applied to market- and firm-level variables prior to the consolidation, holding estimated parameters fixed. This analysis predicts that the average number of firms serving a given market is significantly smaller with the merger than without it. Furthermore, the merger should most heavily reduce the number of firms operating in non-tourist, higher population, and shorter routes, as well as those operating in markets with more incumbent airlines and airlines serving both endpoint airports. Taken together, these results may inform the direction of merger regulation and policy.