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Joined: Mon Apr 02, 2001 11:32 pm

Why Airlines Will Never Make Money!

Wed Aug 14, 2002 1:11 am

Everybody blames Unions for the high cost of air-travel - their wages push up the price of airfares. But that is not really true because it presupposes that airline management would want to charge lower fares but cannot do so because of Unions. That clearly is nonesense!

It is the very high airfares that allow unions to get very high wages

Airlines can charge very high fares because of they have a product with no satifactory substitutes and they have a monopoly on airline slots. Unions can therefore demand very high wages because airlines can "meet" those wage demands because of the high airfares.

This is the classical economic rent theory first realized in 18 century Britian- then people were starving because bread was too expensive. Landlords were blamed for charging high rents - the economist David Riccardo demonstrated it was the other way around - high rents were due to high prices! (The real reason for the high cost was the ban on corn imports)

Think about this logically - An airline can make $1 million profit (at oportunity cost) at its current costs. The Unions demand pay increase of $1 million - what can the airline do - it cannot hire substitute workers as it is probably unsafe and not practical for a big airline. It cannot store the product or subcontract it to a third world country like Nike, or Addidas do. It is in the best interest of the airline to pay up- the result is that airline will loose all its profits. Thereotically the airline will be willing to meet all wage demand up its cost of capital. The profits earned will only be just enought to stay in the business (zero economic profit)

In reality the airline management are quite happy making big salaries and paying big salaries to its staff. They have become self-perpetuationg organizations.

This basic theory also applies to store locations. In England the shops in the prime location in Oxford street make the lowest profits! Why? Landlords can jack up rent to the point that all advantages of the location are eliminated.

it also explain why movies stars salaries are so high - If Julia Roberts can bring in an extra $20 million in box office - thats how much she can demand for her services

If you do not believe me then ask yourself - how is it that industry with stunning growth, monopoly control have only average to below average return on investment (airlines and studios!!!)

Unions are no worse then any other profit seeking group - they exploit their position like anyone else would do. So do not accuse me of attacking unions - I would do the same!!
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RE: Why Airlines Will Never Make Money!

Wed Aug 14, 2002 1:40 am

Check out Don Carty's admission in his latest press release.

He's a lot older, smarter, and wealthier than I am and had the "epiphany of the year" when it comes to labor.

Check it out.

If they're willing to pay Julia Roberts $20,000,000 per film, rest assured that the studio is generating WAY more than that in sales and if the primary reason the audience goes to the movie is her big smile, she deserves every bit of it.

BTW, this is being written from America which is a capitalist, democratic society where you only get paid what your bosses are willing to pay you.

Doug Taylor
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RE: Why Airlines Will Never Make Money!

Wed Aug 14, 2002 1:40 am

This is a 'chicken-and-egg' argument...fares versus costs. Keep in mind that the key word in 'union contract' is 'contract.' It is locked in for a period of time.

Obviously, none of the contracts (pilots, mechanics, FAs, whomever) that were signed in the 'glory days' of 1999-2000 (when 'dot-com' mania had everybody flying and planes chock-full) could 'pre-suppose' September 11 and/or the economic bursting of the tech bubble. Hence, the carriers are locked into paying these high wages in spite of the fact that the environment and landscape have both changed dramatically. This is not to say the union negotiators should have forseen this...that's silly...but what it DOES say is that things can change, and in a hurry. People are much more price sensitive these days; heck, it is tough enough just to get people to fly at ANY price, never mind an outrageous one. And largely, travelers (even the business ones) are looking for low fares because whether it comes out of an individual's pocket or a company's pocket, it is--in the end--a cost. Being a discretionary cost in many cases (how many people on a given flight absolutely HAD to be on that plane?), price elasticity is quite high: the number of seats filled swings wildly based on fare changes, that's what yield management is all about.

So, in the end, I believe the high fares are a result of the airlines trying to first cover their high costs rather than the fares being a means for unions to extract high wages. Normally, the price charged is a function of covering costs and then adding a profit margin. The whole 'Golden Goose' syndrome applies here, and the big-buck contracts that unions win might only result in a temporary gain. I am not saying that unions are totally at fault; it never is as clear-cut as that. But I AM saying that unions coming back to the tables in the near term should look toward maintaining the health of their company first...because without that, big union contracts aren't worth the paper they're printed on.
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RE: Why Airlines Will Never Make Money!

Wed Aug 14, 2002 1:46 am

Hello! McFly! Could it be extremely high capitalization? Skyrocketing medical costs? Massive infastructure neeeds? Every increasing fuel costs? A glut rather than a lack of seats? A business that requires by its nature a highly/specially skilled workforce resulting in high labor costs? A business that requires by its nature a large workforce resulting in high labor costs? Could it be huge exposure to liability? Could it be favorable bankruptcy laws that allow weak players to compete with the unfair advantage of not having to pay their bills? Could it be a weak economy keeping the business people at home because they have no need to travel? Could it be terrorism has scared the flying public? Could it be the sensationalism shower by the media on ANYTHING to do with aviation? Could it be poor management? Could it be a demoralized workforce? Could it have anything to do with air traffic control gridlock?

It could be and is a combination of all of the above and more. Placing the blame for unprofitablity on any one aspect of the business is, well just silly.

One only has to look at Southwest Airlines as an example of an airline that has overcome all the obstacles and makes money. It is the most highly unionized air carrier out there. But its honest and excellent management has motivated its workforce to excel. It pays very well and both its pilots and mechanics are on the verge of 20%+ pay increases.

Overall I think your premise is simplistic and badly misses the mark.
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Joined: Mon Apr 02, 2001 11:32 pm

RE: Why Airlines Will Never Make Money!

Wed Aug 14, 2002 8:04 pm

Md88 - you have highlighted many of the costs of doing business - but labour counts for 50% of cost and depreciation is another 20%. Also none of the costs you mention will change (as percentage of cost) if gross profits go up. But if airlines could rise air fares the unions will jack up wage demands to take the excess profits away. Landlord do exact the same with retail property!!

Unions are the landlords of the airline industry! (ie monopolistic power on a critical factor of production). It largely is matter of who gets the excess profits - the shareholders or the union staff.

As the airlines - they will always try to charge the highest fares the market will bare - maximizing profits is their goal. If they could charge $1000 for a 20 minute flight that is what they will do. Once cost have been covered they have no influence on price - only competition will effect price. For example I sold a house for $20000 when I only bought for $60000 - If I could sell it for $300000 I would do so! The fact that I bought the house for $60,000 has nothing to do with the final selling price. (another example - DVD cost more then the VHS equivelent even though they are cheaper to make!)

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