The Justice Department wants to stop the US Airways-American merger. Here’s why.

This is surprising news: The U.S. Department of Justice and several states just sued to block the proposed merger of American Airlines and US Airways, arguing that the new $11 billion airline would reduce competition for commercial air travel in key markets.

The lawsuit comes after months of negotiations between the two carriers and the Justice Department's antitrust division over the merger, which would create the world's largest airline. In Europe, regulators had recently approved the deal after the companies agreed to give up two daily slots at London's Heathrow Airport.

To get a better sense for the Justice Department's thinking here, it's worth reading today's statement and revisiting this report in June from the Government Accountability Office, outlining how the proposed merger could both benefit and hurt travelers.

On the upside, the two airlines would be able to trim their costs by streamlining operations and scaling back unprofitable routes. That's good for consumers:

Cost savings can be generated by eliminating redundancies and operational efficiencies, including reducing service, but can be muted by problems in combining different aircraft, technologies and labor forces. In the case of US Airways and American, they estimate that a merger would yield $1.4 billion in annual benefits from increased revenues and reduced costs.

The flip side, however, is that the merged airline would have a monopoly over several U.S. routes, such as nonstop service between Nashville and Washington, D.C. and between Miami and Philadelphia. The new airline would also dominate key hubs, controlling 69 percent of the take-off and landing slots in D.C.'s Reagan National Airport, for instance.

That dominance, the worry goes, could lead to service cuts or undue fare hikes — or both:

If not challenged by DOJ, the merged American would surpass United to become the largest U.S. passenger airline by several measures. While US Airways and American overlap on only 12 nonstop routes, no other nonstop competitors exist on 7 of those 12.

The merger would also mean less competition along 1,665 other routes within the United States, while boosting competition along just 210 routes. Here's a chart from the GAO showing how the American-US Airways merger would decrease the number of competitors in various markets (it also shows how the 2010 merger between United and Continental curtailed competition):

american GAO

That aspect has been weighing most heavily on regulators' minds. The Justice Department said the merger “would result in consumers paying the price—in higher airfares, higher fees and fewer choices.” It also warned that the merger would make it easier for the remaining airlines to coordinate fee increases on things like checked bags.

The United States has already seen a spate of airline mergers in the last few years. In 2008, Delta Air Lines acquired Northwest. In 2010, United Airlines and Continental merged. And in 2011, Southwest acquired Air Tran. If the merger between American Airlines and US Airways went through, just four airlines would control more than 80 percent of the U.S. domestic air-travel market.*

Some analysts are optimistic about this trend. A report from PricewaterhouseCoopers in 2012 argued that recent “mega-mergers" haven't led to "dramatically higher airfares or drastically reduced competition on most routes.” (Emphasis on "most.") And my colleague Steve Pearlstein has argued that consolidation is the only way for airlines to thrive in an industry that has been cutthroat and largely unprofitable since deregulation in the 1970s.

But U.S. regulators don't seem to agree—on either count. In its announcement, the Justice Department noted that "executives of both airlines have repeatedly said that they do not need the merger to succeed." Both American and US Airways just posted record profits last quarter, which appears to have persuaded regulators that the merger wasn't exactly urgent.

It's also possible, however, that the lawsuit is just a tactic to elicit more concessions from the two airlines in order to alleviate antitrust concerns. Back in 2010, the Justice Department eventually approved the merger between United and Continental after the airlines agreed to relinquish 36 take-off and landing slots at Newark Liberty International Airport to Southwest Airlines.

Either way, today's announcement came as a shock to investors. As of 11:30 a.m., American Airline's stock is down 36.32 percent on the day, while US Airways is down 12.69 percent.

*Update: According to the Justice Department, If the US Airways-American merger went through, the four biggest airlines would control more than 80 percent of the domestic air-travel market, not 70 percent.

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