The US Airways-American merger and the end of an era of airline consolidation

The top executives of American Airlines have finally acknowledged that they are going to lose their seats in the cockpit—all that’s left is to negotiate over the cost of the parachutes.  The rest of the crew, along with the passengers and the creditors, will be happy to see them depart.

The expected takeover by the smaller, younger US Airways brings to an ironic end a consolidation in the domestic airline industry that has been going on, in fits and starts, for more than two decades.  (A deal appeared imminent Wednesday afternoon, according to a report from Bloomberg News, and the merger was announced on the Internet early Thursday). The seeds were planted back in the late 1970s when Jimmy Carter and Ted Kennedy engineered the deregulation of the airline industry, allowing low-cost upstarts to challenge the dozen or so major carriers. The resulting expansion in the industry’s capacity drove down prices, just as the deregulators hoped it would, but put strain on legacy carriers locked into expensive planes, union contracts and airport leases. Each turn in the economic cycle brought another round of bankruptcies and consolidation as once-proud brands like Pan Am and TWA and Eastern were all retired.

Most of their flights, it should be noted, end up on dry land. ( Brendan McDermid/Reuters)
Most of their flights, it should be noted, end up on dry land. ( Brendan McDermid/Reuters)

But even though the number of airlines declined, the capacity did not as the ambitious survivors moved in to pick up the lost service. It has only been in the last few years, with the mergers of United with Continental and Delta with Northwest that the industry was able to end its ruinous competition and begin to raise prices to a level where companies could turn a profit through the business cycle, not just during boomtimes. The marriage of American with US Airways completes that consolidation process, creating the largest of the remaining giants.

The airline business, after spending a generation consolidating, is now down to a “Final Four.” United, Delta, the merged American-US Airways, and, domestically at least, Southwest, an early low-priced upstart whose prices are now often indistinguishable from its larger rivals and whose operations have slowly drifted toward a similar hub-and-spoke route model.

US Airways chief executive Doug Parker and his team was patient and disciplined in the way they went about quietly stalking their prey and winning over American’s unruly unions and its unhappy creditors. They are the right crew to return the luster to what was once the class of the airline industry.  After the inevitable hiccups involved in melding two fleets, two route structures, two sets of unions, two frequent flyer programs and two computer systems, their long-term challenge will be to find a way to become a truly global airline with service into the fast-growing Asian market.

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Back home, we can expect the airlines to act like any other oligopoly, with the airline controlling the hubs leading on price and all the others only too happy to follow along.  While consumers are already grumbling that prices are rising, a longer-term look shows that, on an inflation adjusted basis, prices (including those pesky fees) are still well below what they were in the old regulated environment, and even below what they were in during the late 1990s when the consolidation process was only partially complete. Here are the numbers, in chart form:

While consumers have benefited from the intense price competition in the past, such pricing was not sustainable, as the serial bankruptcies indicated. Going forward, the airlines will likely shift the focus of their competition to service, which many of us would welcome.  While on-line competition may force the carriers to keep fares low in an ever-shrinking steerage class as the carriers grow and improve their “premium economy” sections.

To keep the surviving carriers from raising fares too fast, the Justice Department will have to demand that the newly merged American forfeit some of its slots in Washington (National), New York (LaGuardia) and Boston to smaller rivals. It will also have to keep an eye on the anti-competitive tricks the airlines, often with the connivance of airport authorities, play to protect their fortress hubs from new entrants.

On balance, however, the takeover of American by US Airways is probably the best possible outcome for consumers, investors, lenders and employees who have experienced more than the occasional turbulence over the last 25 years. A profitable decade without another bankruptcy would be a welcome breakthrough for an industry that has yet to turn a cumulative profit.

Steven Pearlstein is a business and economics columnist who writes about local, national and international topics.
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Dylan Matthews | February 14, 2013