[Senate Hearing 106-1052]
[From the U.S. Government Printing Office]

                                                       S. Hrg. 106-1052




                               before the

                       SUBCOMMITTEE ON ANTITRUST,

                                 of the

                       COMMITTEE ON THE JUDICIARY
                          UNITED STATES SENATE

                       ONE HUNDRED SIXTH CONGRESS

                             SECOND SESSION


                              MAY 2, 2000


                          Serial No. J-106-80


         Printed for the use of the Committee on the Judiciary


73-032                     WASHINGTON : 2001

                       COMMITTEE ON THE JUDICIARY

                     ORRIN G. HATCH, Utah, Chairman
STROM THURMOND, South Carolina       PATRICK J. LEAHY, Vermont
CHARLES E. GRASSLEY, Iowa            EDWARD M. KENNEDY, Massachusetts
ARLEN SPECTER, Pennsylvania          JOSEPH R. BIDEN, Jr., Delaware
JON KYL, Arizona                     HERBERT KOHL, Wisconsin
MIKE DeWINE, Ohio                    DIANNE FEINSTEIN, California
JOHN ASHCROFT, Missouri              RUSSELL D. FEINGOLD, Wisconsin
SPENCER ABRAHAM, Michigan            ROBERT G. TORRICELLI, New Jersey
JEFF SESSIONS, Alabama               CHARLES E. SCHUMER, New York
BOB SMITH, New Hampshire
             Manus Cooney, Chief Counsel and Staff Director
                 Bruce A. Cohen, Minority Chief Counsel

      Subcommittee on Antitrust, Business Rights, and Competition

                      MIKE DeWINE, Ohio, Chairman
ORRIN G. HATCH, Utah                 HERBERT KOHL, Wisconsin
ARLEN SPECTER, Pennsylvania          ROBERT G. TORRICELLI, New Jersey
STROM THURMOND, South Carolina       PATRICK J. LEAHY, Vermont
             Pete Levitas, Chief Counsel and Staff Director
        Jon Leibowitz, Minority Chief Counsel and Staff Director

                            C O N T E N T S



DeWine, Hon. Mike, a U.S. Senator from the State of Ohio.........     1
Grassley, Hon. Charles E., a U.S. Senator from the State of Iowa.    59
Kohl, Hon. Herbert, a U.S. Senator from the State of Wisconsin...     2


Panel consisting of Alfred E. Kahn, Professor Emeritus, 
  Department of Economics, Cornell University, Ithaca, NY and 
  Steven A. Morrison, Professor of Economics, Northeastern 
  University, Boston, MA.........................................     4
Panel consisting of Robert Ferguson, President, Midway Airlines, 
  Raleigh-Durham, NC; Donald J. Carty, Chairman and Chief 
  Executive Officer, American Airlines, Dallas, TX; and Bill La 
  Macchia, Jr., President and Chief Executive Officer, Sun 
  Country Airlines, Mendota Heights, MN..........................    28


Carty, Donald J..................................................    35
    Prepared statement...........................................    38
Ferguson, Robert.................................................    28
    Prepared statement...........................................    31
Kahn, Alfred E...................................................     4
    Prepared statement...........................................     8
La Macchia, Bill, Jr.............................................    42
    Prepared statement...........................................    46
Morrison, Steven A...............................................    11
    Prepared statement...........................................    13

                    Addition Material for the Record

Edward P. Faberman, Air Carrier Association of America, prepared 
  statement and attachments......................................    61
Paul M. Ruden, American Society of Travel Agents, letter and 
  attachments....................................................    72
T. Allan McArtor, President and CEO, Legend Airlines, prepared 
  statement......................................................    85



                          TUESDAY, MAY 2, 2000

                           U.S. Senate,    
Subcommittee on Antitrust, Business Rights,
                                   and Competition,
                                Committee on the Judiciary,
                                                    Washington, DC.
    The subcommittee met, pursuant to notice, at 2:04 p.m., in 
room SD-226, Dirksen Senate Office Building, Hon. Mike DeWine 
(chairman of the subcommittee) presiding.
    Also present: Senator Kohl.

                         STATE OF OHIO

    Senator DeWine. Good afternoon. Two years ago, this 
subcommittee held hearings to examine the competitive structure 
and activity of the aviation industry. We have been following 
the industry closely in the 2 years since those hearings, and 
aviation continues to be among the most difficult marketplaces 
to evaluate.
    It is clear that competition has succeeded in improving 
service and prices. In fact, since Congress deregulated the 
airline industry in the 1970's, passengers have flown far more, 
to a greater number of destinations, and at a lower average 
price than ever before. The hub and spoke system, from all 
reports, is responsible for a great deal of that progress.
    But despite the general improvements in service and price 
deregulation, we continue to hear complaints from consumers, 
complaints ranging from high prices for business travelers, to 
poor customer service for leisure travelers, particularly in 
hub cities. Possibly as a result of this dissatisfaction, 
start-up airlines continue to enter the market. Despite their 
effort to meet customer demand, however, most start-ups fail, 
often while complaining about the anti-competitive tactics of 
the incumbent airlines, especially those that are entrenched in 
hub airports.
    In response to the failures of start-up airlines, Federal 
enforcement and regulatory agencies have increased the scrutiny 
of the industry. Specifically, the Department of Justice has 
investigated a number of major carriers and has filed a case 
charging American Airlines with predatory pricing. Further, in 
the last 2 years the Department of Transportation has issued 
and withdrawn draft competition guidelines and is now 
considering whether to issue new guidelines. We will examine 
the implications of both of these Government actions in our 
hearing today.
    Now, with regard specifically to the Department of 
Transportation and its guidelines, I would like to make a 
couple of points. As most of you know, the draft guidelines 
that the Department of Transportation issued 2 years ago met 
with a great deal of criticism, and I shared the concern of 
many of the critics, namely that the draft guidelines were both 
too vague and too restrictive.
    Now, I know that the Department of Transportation has 
received a great number of comments on the guidelines, and I 
hope that if the Department does reissue the guidelines that 
they took those comments into account and produce a document 
that moves the debate forward.
    More generally, however, I am still concerned about the 
notion of Department of Transportation guidelines being used as 
a benchmark for enforcement policy. By their very nature, 
guidelines are difficult to draft, and they run the risk of 
either over-regulating behavior, which is the last thing we 
should be doing in the aviation industry, or not providing 
enough guidance to competitors.
    Accordingly, at this point I continue to believe that the 
vigorous, reasonable enforcement of the predatory pricing laws 
are a better alternative. If correctly enforced, the predatory 
pricing laws should enable the Government to punish illegal 
activity without chilling the sort of tough competition that we 
want to encourage.
    As I noted earlier, the Department of Justice is currently 
litigating its first predatory pricing case in years, and I 
think it makes sense to await the outcome of that case before 
we consider any different type of enforcement mechanism.
    In the meantime, the industry continues to evolve. Perhaps 
one of the most significant changes is the tremendous growth of 
regional jet service to provide direct, non-stop service to 
many new cities. These jets are smaller and cheaper to fly than 
the traditional jet airliner, but are much more popular than 
the turbo-prop planes that they are replacing.
    I am interested in hearing from our witnesses today in 
regard to what impact the regional jet will have on the hub and 
spoke system. I would also like to discuss other aspects of the 
aviation industry which impact on competition, such as 
exclusive gate arrangements at many airports and the need to 
modernize our air traffic control system.
    Because of Government actions addressing competition and 
the industry's reaction to marketplace changes, this is an 
important and an exciting time in the aviation industry. We 
have a very distinguished and experienced group of witnesses 
with us today to help us analyze recent developments, and I 
look forward to hearing from them as this subcommittee 
continues its work to increase competition and to help 
    Let me turn now to the ranking minority member of the 
subcommittee, Senator Kohl.

                          OF WISCONSIN

    Senator Kohl. Thank you, Senator DeWine.
    To paraphrase Charles Dickens, in many respects airline 
competition today is a ``tale of two cities.'' Consumers in 
large markets such as New York, Los Angeles or Washington, DC, 
traveling to other large cities often benefit from vigorous 
price competition among several choices in air carriers. 
Unfortunately, outside these large markets, the picture is much 
bleaker. Travelers in smaller and medium-size markets continue 
to have few alternatives to the large incumbent carriers on 
many routes.
    As a result, only some of the benefits promised during 
airline deregulation have been realized. Fares continue to be 
higher than they should be, and choice continues to be limited. 
Moreover, start-up carriers face serious obstacles in 
establishing service competing with the incumbent carriers. And 
according to business writer James Glassman, the established 
large airlines seem content to divide the country into separate 
fiefdoms defended by fortress hubs, avoiding direct competition 
with each other and thereby ensuring high fares and higher 
profits. That is why he advised investing in their stock.
    When a start-up does enter a new route dominated by a 
single carrier, the results are dramatic. Indeed, after Sun 
Country Airlines recently began competing against Northwest 
from Milwaukee to Minneapolis, prices dropped substantially, by 
as much as half, according to our research, from the levels of 
just 2 years ago. The findings reflected in thecharts behind me 
demonstrate this dramatic change.
    But the difficulty is not so much getting these start-ups 
into the market, it is keeping them in the market in the face 
of relentless and possibly predatory competition. Mr. La 
Macchia, the President of Sun Country, will testify to the 
problems faced by new entrants challenging large carriers in 
their fortress hubs; for example, difficulty in obtaining 
airport gates, huge increases of capacity by the incumbent 
carrier, and large bonuses paid to travel agents for directing 
consumers to the dominant carrier. We invited the CEO of 
Northwest to testify to give his side of the story, but he 
    To be sure, there are no simple solutions to these 
problems, but one answer may lie somewhere other than in 
antitrust enforcement. That is because the standards for 
predatory pricing are uncertain, making the large airlines' 
behavior in many cases lawful under prevailing antitrust laws. 
And antitrust enforcement almost always leads to complicated, 
protracted, and lengthy proceedings. However, it is clear that 
abuses exist, abuses that need to be corrected, and that in 
many places the competitive conditions in the airline industry 
are far from ideal.
    For this reason, today we are writing to the Secretary of 
Transportation to urge him to utilize his enforcement powers in 
an innovative and effective way. The Transportation Act 
authorizes the Secretary to prevent ``unfair, deceptive, 
predatory, or anti-competitive practices in air 
transportation.'' We believe, and the weight of authority is 
strongly on our side, that some conduct by airlines, although 
legal under antitrust law, is nonetheless unfair, unscrupulous, 
and anti-consumer, and clearly actionable under the DOT 
    Using this approach--that is, having the DOT bring an 
action against an airline for unfairness rather than predatory 
pricing--can avoid years and years of litigation about whether 
or not the technical requirements of antitrust law have been 
met. In other words, it will help consumers sooner rather than 
later, and it is more fair to the airlines, who don't deserve 
to be in legal limbo for years and years and years.
    Mr. Chairman, some of us may have different views about how 
to promote competition, but all of us here today want to ensure 
that the traveling public has the greatest possible number of 
choices, the lowest possible prices, and the highest possible 
quality of service and standards in air travel. So we are eager 
to hear what our panelists think of these ideas and the state 
of airline competition today.
    It is a terrific group of witnesses, and I especially want 
to thank Professor Kahn, the father of airline deregulation, 
who is appearing before this committee for the first time since 
1987. We welcome you all.
    I return to you, Mr. Chairman.
    Senator DeWine. Senator Kohl, thank you very much.
    Let me introduce our first panel. Alfred Kahn is Emeritus 
Professor of Political Economy at Cornell University and a 
special consultant to National Economic Research Associates. He 
is the former Chairman of the Civil Aeronautics Board and is 
well known throughout the industry as the father of airline 
    Steven A. Morrison is Professor and Chair of the Department 
of Economics at Northeastern University. During 1998 and 1999, 
he was a member of the congressionally-mandated Transportation 
Research Board Committee for the Study of Competition in the 
U.S. Airline Industry. Professor Morrison testified in front of 
this subcommittee about aviation competition about 2 years ago 
and we are happy to have him back with us today.
    Professor Kahn, we will start with you and we will take 
your opening statement. Thank you for appearing, both of you.

                     UNIVERSITY, BOSTON, MA

                  STATEMENT OF ALFRED E. KAHN

    Mr. Kahn. Thank you, Mr. Chairman. One prefatory sentence. 
While identifying me as the father of airline deregulation is 
an exaggeration of history, I do not demand a paternity test. I 
am honored by your invitation and hope I can be of some use to 
    Fortunately, I can leave to my colleague, Professor 
Morrison, who is the coauthor of the really definitive studies 
of the effect of airline deregulation, documentation of my firm 
opinion that deregulation has been a great success, in 
particular by unleashing the forces of competition and bringing 
air travel within reach of people of limited means without 
sacrifice of safety.
    I had in my formal statement, which I will try quickly to 
summarize, a recognition of the fact that this has been 
accompanied with a great deal of discomfort and congestion. In 
part, I want to point out that was precisely our purpose. When 
we had planes flying half full and half empty, it was nice to 
have an empty seat next to you.
    Our purpose was to bring low-fare, lower-quality service, 
and that inevitably meant letting the airlines compete to fill 
those empty seats. So the congestion is part of a remedy; low-
price and greater congestion is part of what we were attempting 
to accomplish. But in addition, there has been a major failure, 
I think, of Government institutions to provide the necessary 
infrastructure and to price it correctly, and we can go into 
that, but it is not really your subject today.
    I don't have to point out to this committee the truism that 
deregulation means increased reliance on competition, and 
increased reliance on competition means greatly increased 
importance of vigilance on the part of the antitrust authority.
    In these remarks, I want to concentrate on one aspect of 
antitrust policy as applied to this industry that has inspired 
the greatest amount of controversy in several years, namely the 
determination of what constitutes or should constitute unfairly 
exclusionary policies--``unfair, deceptive, predatory,'' in the 
terms of the authority of the Department of Transportation.
    Along with the reform of the arrangements for providing 
infrastructure and pricing it, and continuing to try to get rid 
of the barriers to competition at the international level, I 
can think of no other aspect of Government policy with greater 
significance for the preservation and expansion of the benefits 
of deregulation.
    I therefore strongly endorse the proposition that DOT both 
has and should have joint responsibility. It is the precise 
counterpart of the statutory responsibility of the Federal 
Trade Commission to prevent unfair methods of competition in 
industry generally, from which airlines were exempted because 
historically they were subjected to direct regulation.
    The basis for the increased concern about such assertedly 
exclusionary tactics as predatory pricing, interference with 
fair access to airport facilities, refusal to interline or 
exchange luggage, or the offer of special override commissions 
in the face of competitive entry, is by now entirely familiar. 
And I just want to set it forth in a series as quickly as I can 
of propositions.
    Average yields per mile have declined some 40 percent, 
adjusted for the Consumer Price Index, in real terms. But full 
fares, paid by only about 6 percent of all traveled mileage, 
have apparently increased on the order of 70 percent; that is, 
adjusted for the CPI. If you don't adjust it for the CPI, they 
have increased five-fold. So you have had this increased spread 
of fares.
    Now, I think in large measure, maybe in major measure, that 
spread has been beneficial for travelers, both those who pay 
the low fares and those who pay the high fares. It reflects 
wide differences in costs, with length of route, with density 
of route, with time of day. If you try to get discount fares 
between New York and Washington at 8 a.m. on a Monday morning, 
you are not going to get it. Obviously, you are paying more, 
but that is because congestion costs are higher at that time, 
and the cost of holding seats out for last-minute availability, 
which is one of the things you pay a lot for.
    In the case of the fare quoted to me, Ithaca to Washington, 
300 miles or less, round trip fare was $732. You could divide 
it by the mileage. I don't have any scientific basis for 
telling you that I find that outrageous, but I do take comfort 
from the fact that if I can stay over a weekend, I can get very 
good fares, and most people do. So there is this increased 
    I should point out that in some measure that spread is 
discriminatory. It clearly is charging travelers with a highly 
inelastic demand what that traffic will bear. But even 
discrimination, on balance, is beneficial. It is a way, for 
example, of filling seats that would otherwise be empty, 
charging very low fares to discretionary travelers. And as long 
as they cover the incremental costs of serving them, they 
contribute toward using bigger planes which are more efficient, 
with an increased availability of routes to different places, 
which is clearly a product of deregulation, and convenient 
scheduling, all of which are particularly beneficial to 
business travelers.
    At the same time, it has clearly raised legitimate concerns 
about whether it represents also monopoly exploitation of the 
demand-inelastic travel, not just business travelers, but 
people traveling on family business who can't get a certificate 
from a crematorium that they deserve a lower fare. I know about 
that; I have had that experience.
    There are only two ways of preventing that exploitation, if 
it exists. One is, of course, the resumption of regulation. I 
don't know anybody--well, I know some who are in favor of it, 
but nobody I respect. [Laughter.]
    The only alternative is freedom of entry, and that, of 
course, is exemplified by the increasing challenge to the sharp 
increases in full fares by new entrants in the middle-1990's. 
The Department of Transportation has documented it. It 
estimates that they saved travelers some $6 billion in 1996. 
That is how a deregulated, competitive industry is supposed to 
protect not really consumers generally, but any subgroup of 
consumers. If a small carrier says, I can serve these people at 
lower cost and at a lower fare, free entry is the way in which 
we rely for protection.
    I won't recite the pattern that is described by the 
Department of Transportation, the pattern that is exemplified 
by this showing, but certainly it has been found in case after 
case, a drastic reaction, very sharp price reductions, an 
enormous increase in the offer of discount fares only on the 
particular routes where the challenge occurs. When and if the 
entrant is driven out, fares go back up to their previous 
level. And, of course, other carriers thinking about entry, 
seeing what happened to the one before, are going to be 
hesitant about entering.
    Now, I can't even tell you that that is the typical 
scenario. It has certainly happened many, many times. I have 
not been able to do a continuing study, and I regret that the 
Department of Transportation doesn't seem to have done so, to 
tell us whether that is the typical picture or not.
    But, interestingly, I came across my desk yesterday a 
monograph by Professors Fred Allvine, of the Georgia Institute 
of Technology, about whose work I have known in the past, and 
Ashutosh Dixit, of the University of Georgia, which appears to 
document at length and in great detail exactly the kind of 
scenario that is described there and purporting to show a 
pattern of very great consistency. And I urge you and the 
Department of Transportation to look at it very carefully.
    There is no question, according to the studies by Drs. 
Morrison and Winston, that entry by more or less low-fare 
carriers, low-cost, has made a disproportionately great 
contribution to the benefits of price competition in the 
industry. And they have actually made estimates of that and 
they show that the contribution to savings from reduced real 
fares by Southwest and other new entrants has been more than 
twice as great as the competition supplied by incumbent 
carriers. It plays an extremely important role in disciplining 
the industry.
    Now, the industry is especially susceptible to predation 
because you can move aircraft in and out, and that is an almost 
unusual circumstance in this industry. The incumbents incur 
virtually no additional sunk costs if they simply increase 
capacity on challenged routes, and then they can readily take 
the capacity out. And that also makes it easier for the people 
who are there to depart because they don't have major sunk 
costs. They can transfer their planes out or be induced to do 
    Yield management techniques also increase the ability of 
the industry to practice predation. Because of that, it is 
extremely difficult to apply the test that has typically been 
adopted by the courts in antitrust cases under the Sherman Act 
and under the Clayton Act because the principal component of 
the average variable costs that supply the principal test under 
antitrust jurisprudence are notproduction costs, which are 
very, very low. They are opportunity costs, the revenues that you 
sacrifice by transferring capacity from one route to the challenged 
route, and what the Department of Transportation pointed out, the 
sacrifice of net revenues that you may be making if you had pursued a 
less aggressive policy.
    That immediately makes it clear how difficult that is to 
interpret and to administer, and I am one of the first to 
recognize it. But, in principle, I point out to you that the 
report of the National Research Committee, of which I was a 
member, that reported last summer clearly recognizes the 
infirmity of simply using average variable production cost. 
That reflects direct expenses, but it is an unsatisfactory 
proxy--I am quoting them--for marginal costs because it doesn't 
account for the more profitable opportunities that are 
    Now, I should emphasize, in fairness, the overall 
profitability of this industry is nothing to write home about. 
It seems over the years clearly to fall somewhere below the 
average, and perhaps markedly below the average, of industry 
    On the other hand, that doesn't mean that there is no room 
for additional competition. If competitive entry were freer 
than it is today of predatory responses, the intensified 
competition could be associated with lower costs, both because 
of the increased pressures that it would impose on the 
incumbent carriers to reduce their costs and because a greater 
proportion of the traffic would be carried by low-cost 
    My last observation, and I will stop. There is always a 
danger in proceeding more vigorously against what appear to be 
predatory pricing responses of weakening competition itself. 
That is a legitimate concern that a more vigorous attack on 
these responses by labeling healthy consumer-benefitting 
responses as predatory could outweigh the benefits.
    On the other hand, some of the responses to the Department 
of Transportation's initiative to move against them on the 
ground that it would suppress more competition than it would 
protect generally ignores the fact that the only circumstances 
under which DOT would move under these would be when the 
incumbents were not offering those low fares in such profusion 
until they were challenged, and then only in the particular 
routes on which they were challenged.
    The initiative has in almost all cases, almost invariably, 
come from the entrants. So when one sheds tears about limiting 
the competitive response of the incumbents, it is important to 
bear it in the context that they occur only when the initiative 
has come from competitive entrants. And, of course, they are 
promptly withdrawn when they succeed in driving competitors 
    On the third hand--you remember President Truman said he 
used to go to bed at night praying for a one-handed economist--
there is the difficulty in enforcement actions of predicting 
which of these vigorous competitive responses will have an 
ultimately anticompetitive effect and which will not, and in 
which markets, therefore, competition is likely to persist, to 
the lasting benefit of consumers.
    I am sorry that I have left you with a three-handed 
dilemma. I do want to present you, however, with the case for 
saying this is a serious problem. There is serious basis for 
anger on the part of the 6 percent of mileage, and that is all 
it is, who pay the full fare, and all of them live in Ithaca. 
    Therefore, I think DOT's exercise of its independent 
authority should be encouraged.
    Thank you.
    Senator DeWine. Professor, thank you very much.
    [The prepared statement of Mr. Kahn follows:]

                  Prepared Statement of Alfred E. Kahn

    I am honored by the invitation to appear before you today, and hope 
I can be of some assistance to you in your consideration of the state 
of competition in the deregulated airline industry and the application 
of the antitrust laws to it.
    Fortunately, I can leave to my colleague, Professor Steven 
Morrison, co-author of the definitive studies of the effects of airline 
deregulation, documentation of my firm opinion, and his, that 
deregulation has been a great success--in particular, by unleashing the 
forces of competition, bringing air travel within reach of people of 
limited means, without sacrifice of safety.
    There are, I think, two things to be said about the fact that it 
has also been accompanied by a marked increase in discomfort and 
congestion: first, that it was precisely the failure of regulation to 
offer travelers a low-cost/lower-quality product that was its greatest 
failure; and, second, that this deterioration in the quality of the air 
travel experience is a consequence, in important measure, of the 
failure of government to provide the optimal infrastructure--
specifically, air traffic control and airport capacity--and to price it 
    I take it as a truism, which requires no explanation to this 
Committee, that the withdrawal of direct regulation shifts the 
responsibility for protecting consumers to competition and 
responsibility for preserving that competition to increased vigilance 
in enforcing the antitrust laws.
    In these remarks, I propose to concentrate my attention on the 
aspect of antitrust policy, as applied to this industry, that has 
inspired the greatest amount of controversy in the last several years--
namely, the determination of what constitutes or should constitute 
unfairly exclusionary practices, such as the Department of 
Transportation is charged with preventing. While I have not been in a 
position to make any direct assessment, on the basis of historical 
experience, of the importance of such practices--and am not at all 
clear how it might be conducted--I have at least the strong impression 
that the intense controversies engendered by DOT's promulgation of 
proposed rules in fulfillment of that responsibility, in April of 1998, 
does properly reflect their importance. Along with the reform of the 
arrangements for providing and pricing access to infrastructure and our 
long-continuing efforts to lift the governmentally imposed barriers to 
competition at the international level, I can think of no other aspect 
of government policy with greater significance for the preservation and 
expansion of the benefits of deregulation--perhaps I should add, of 
greater importance, for good or ill.
    Consistently with that opinion, I strongly endorse the proposition 
that DOT both has and should have that responsibility: it is the 
precise counterpart of the statutory responsibility of the Federal 
Trade Commission to prevent unfair methods of competition--from which 
airlines were exempted because of their historical subjection instead 
to direct regulation.
    The basis for the heightened concern in recent years about such 
assertedly exclusionary tactics as predatory pricing, the interference 
with new entrants obtaining fair access to airport facilities, refusals 
to interline or exchange luggage, and the offer of special override 
commissions to travel agents targeted at markets subjected to new 
competitive entry is by now entirely familiar.\1\
    \1\ I testified on the subject before the Aviation Subcommittee of 
the U.S. Senate Committee on Commerce, Science, and Transportation 
approximately two years ago (April 22, 1998) and before the 
Transportation Subcommittee of the same Committee on May 5, 1998, and 
published a more formal statement, ``Comments on Exclusionary Airline 
Pricing,'' which was published in the Journal of Air Transport 
Management in 1999.
    1. While average yields, per mile, have declined on the order of 40 
percent in real terms--i.e., adjusted for changes in the Consumer Price 
Index--since deregulation, full fares, paid on only some 6 percent of 
total mileage, have apparently increased on the order of 70 percent. 
That sharply increased spread has surely been in large--indeed, I offer 
the impression, major--measure beneficial to all travelers, for two 
reasons. In part, it reflects wide differences in real costs as between 
long and short, dense and thin routes and by hour of the day and day of 
the week, as well as of holding seats open for last-minute 
availability. Moreover, to the extent that the fare differentials are 
discriminatory, they make it possible to use larger, more efficient 
planes and offer more convenient scheduling on a greater number of 
routes than would have been possible if all fares had to be uniform. 
Within limits--of incremental costs at the bottom and stand-alone costs 
at the top--the offer of heavily discounted tickets to discretionary 
and/or leisure travelers, in order to fill seats that would otherwise 
go empty, while charging higher fares to demand-inelastic travelers, is 
beneficial to both of them.
    2. At the same time, this increased discrimination has also raised 
legitimate concerns about the likelihood that those full fares reflect 
also monopoly exploitation of travelers who cannot make their 
reservations weeks in advance or stay over a weekend--the most familiar 
devices by which the airlines discriminate between demand-elastic or 
discretionary travelers, on the one side, and demand-inelastic, 
exploitable ones, on the other.
    3. There are, effectively, only two ways of preventing exploitation 
of the demand-inelastic travelers. One would be a resumption of 
regulation; since no economist I know advocates this, it would be 
superfluous to expatiate on our reasons for not recommending it.
    4. The only alternative protection, and the one completely 
consistent with deregulation, is competition. One important function of 
free competitive entry is to ensure that no group of travelers is ever 
charged more than the costs of serving it alone. This process was 
apparently exemplified by the increasing challenge to the sharp 
increases in full fares by new entrants in the middle '90s--documented 
by the Department of Transportation, along with an estimate that they 
saved travelers some $6 billion in 1996. This is precisely the way in 
which a deregulated, competitive industry is supposed to protect not 
merely consumers generally but any smaller subgroup of them.
    As I put it in my testimony on April 22, 1998,
          The theoretically correct basis for . . . charges to 
        subgroups of customers . . . is stand-alone costs--the 
        hypothetical cost of serving any partial grouping of customers 
        alone. That is the ceiling that would prevail if there were 
        perfectly free entry: . . . .
          Clearly, the best way of ensuring that such a ceiling will 
        prevail is free entry itself; and it was indeed on freedom of 
        competitive entry that we relied for the protection of 
        travelers when we deregulated the airlines. But what seems to 
        have occurred time and again in recent years has been: 
        unrestricted fares are jacked up and up; that induces entry of 
        low-cost, more or less uniformly low-fare rivals, emulating 
        Southwest, who can profitably serve those customers at much 
        lower fares; the incumbents then cut their fares deeply and 
        sharply increase the number of low-fare seats they offer on the 
        routes--and only on the routes--on which they have been 
        challenged; the new entrant departs; and fares immediately go 
        right back up, with no further challenge. That is the kind of 
        scenario that the Department of Transportation says it has seen 
        played out many times in the last few years and that it sees as 
        crying out for remedy.
    I should point out, at the same time, that the pattern I have just 
described is by no means uniform and invariable. While the TRB 
Committee, of which I was a member, that reported on Entry and 
Competition in the U.S. Airlines Industry last summer,\2\ found some of 
the responses of incumbents to competitive entry ``difficult to 
reconcile with fair and efficient competition'' (p. 6), it could find 
no uniform pattern in the instances of possibly exclusionary conduct 
presented to it by the Department of Transportation: while incumbent 
airlines typically reduced their fares sharply in response to such 
entry, sometimes increasing capacity, sometimes not, there is no clear 
and consistent relationship between those responses and either the 
disappearance of the challengers or the restoration of fares to their 
previous level. On the other hand, there has just come across my desk a 
monograph by Professors Fred Allvine, of the Georgia Institute of 
Technology, and Ashutosh Dixit, of the University of Georgia, which 
appears to document, at length and in great detail, the kind of 
scenario that I have just described, showing a pattern of great 
consistency; it clearly deserves your careful attention and that of the 
Department of Transportation.
    \2\ Special Report 255, National Academy Press, Washington, DC, 
    5. Market entry by low-cost, more or less uniformly low-fare-
charging carriers has made a grossly disproportionally great 
contribution to the benefits of price competition in the industry, 
according to the studies of Drs. Winston and Morrison.\3\
    \3\ In their magisterial studies of airline deregulation, Winston 
and Morrison estimate that the contribution to the savings from reduced 
real fares since deregulation by Southwest and other new entrants has 
been more than twice as great as the ``competition supplied by 
incumbent carriers,'' with Southwest accounting for some three-quarters 
of the former. Winston, ``U.S. Industry Adjustment to Economic 
Deregulation,'' Journal of Economic Perspectives, summer 1998, p. 101.
    6. The airline industry is especially susceptible to predation, 
because of the mobility of aircraft and the consequent relatively small 
proportion of sunk costs in undertaking to serve and responding to 
competitive entry into individual markets: the incumbents need incur 
virtually no additional sunk costs when they increase capacity on 
challenged routes and entrants can be readily induced to depart, 
because of their ability correspondingly to move their equipment out.
    7. The sophistication of the major airlines in practicing yield 
management, rationing the availability of deeply discounted tickets, 
makes it easy for them sharply to increase the availability of such 
fares on individual routes in response to competitive challenge and to 
withdraw them when the challenge disappears.
    8. This character of the industry and of its costs makes it 
extremely difficult to apply the test of predation that has been most 
widely adopted by the courts--namely, pricing by the incumbent below 
their short-term marginal or average variable production costs. In the 
circumstances that I have just described, the principal component of 
those average variable costs are not production costs but opportunity 
costs--the revenue foregone elsewhere by transferring capacity to the 
contested route and/or the revenue from undiscounted or only modestly 
discounted ticket sales sacrified by the suddenly increased 
availability of deeply discounted ones. This is the essence of the 
condition incorporated in all three indicators of ``unfair exclusionary 
practices'' proposed by the Department of Transportation: that ``the 
ensuing self-diversion of revenue results in lower local revenue than 
would a reasonable alternative response.'' \4\ (in Transportation 
Research Board, p. 166)
    \4\ Despite the more or less even division of the members of the 
TRB Committee for the Study of Competition in the U.S. Airline Industry 
on the issue of whether DOT should be encouraged to proceed with its 
independent enforcement actions or defer to the Department of Justice, 
all members recognized the critical relevance of opportunity costs in 
these circumstances (pp. 8, 86): ``to the extent that AVC [average 
variable cost] mainly reflects the direct expenses incurred in 
production, it is an unsatisfactory proxy for marginal cost--since it 
does not account for more profitable opportunities foregone.'' By 
emphasizing revenue ``self-diversion,'' DOT seemingly was trying to 
incorporate opportunity costs into its method of detecting predation.
    I must emphasize, in fairness, that the overall profitability of 
the airline industry seems hardly reflective of what one would expect 
from a monopolist: overall, it apparently has, on average over the 
years, fallen well below the average of American industries 
generally.\5\ This consideration does not, however, exclude the 
possibility of purchasers of unrestricted tickets having a legitimate 
complaint; and it by no means follows that if unrestricted fares were 
to come down, discount fares would inevitably have to go up. The 
industry is far from perfectly competitive, there is therefore a wide 
range within which its rates of return can vary, not only from year to 
year, but also in the long run, if only because its costs are not 
exogenously fixed by perfectly competitive input markets but are 
themselves instead responsive in important measure to the intensity of 
competition in airline markets. If competitive entry were freer than it 
is today of predatory responses, the intensified competition that it 
could bring could clearly be associated with lower costs, the latter 
because of both intensified downward pressures of competition on the 
costs of incumbents and increase in the proportion of the traffic 
carried by the low-cost carriers.
    \5\ I have had time only to look at the industry's ranking among 
the Fortune 500 only over the last seven years: its median ranking was 
21st out of 38 industries, reflecting rankings averaging around 32 out 
of 35 in 1993-95 and a very satisfactory 12 out of some 38 in 1997-99; 
but one need only dip back into the catastrophic losses the industry 
suffered in the 1990-92 period to put the quite satisfactory showings 
over the last years in proper context.
    There is always a danger, in proceeding more vigorously against 
what appear to be predatory pricing responses by incumbent airlines to 
competitive entry of weakening competition itself. The concern is a 
legitimate one--that a more vigorous attack on responses by incumbent 
airlines to competitive entry may, by labeling healthy and consumer-
benefiting competitive responses by incumbents as predatory, outweigh 
the benefits. On the other hand, some of the responses of the 
Department of Transportation's initiative to move against such 
responses, on the ground that it would suppress more competition than 
it would protect, generally ignore the fact that the only possible 
circumstances under which such a policy would discourage such price 
reductions would be when the incumbents were not offering such low 
fares in such profusion until they were challenged, offered them then 
only in direct response to competitive entry and only on the particular 
routes affected, and--in those instances in which the competitor had 
been driven out--promptly withdrew them. On the third hand, however, 
there is the difficulty, in enforcement actions, of predicting which of 
the vigorous competitive responses will have that ultimately anti-
competitive effect, which will not, and in which markets, therefore, 
competition is likely to persist, to the lasting benefit of consumers.

    Senator DeWine. Professor Morrison.


    Mr. Morrison. Thank you. It is a pleasure to be back today. 
My remarks will be brief. There is more detail in my testimony 
and in the sources that are referenced in the testimony.
    What I would like to do is go through some points to 
provide my answer to the question that is the theme or the 
title of these hearings: ``Airline Competition: Clear Skies or 
Turbulence Ahead?'' My approach to this issue, as to all issues 
of this type, is empirical. I look at the data.
    What I am going to do in the next 5 minutes is, first, 
present some aggregate figures that provide an overview of the 
extent of competition in the airline industry, then present the 
results of some statistical analyses that shed light on the 
factors that underlie those aggregate results, and then 
speculate on some possible policy responses that may improve 
    As for the overview, I would like to look at some key 
measures of the extent of competition in the airline industry 
and its effects. One of the most important measures of 
competition is the number of carriers per route. And using that 
measure, competition has been stable for the last 7 years, at a 
level some 30 percent higher than it was before airlines were 
    As, or more important than that simple measure of number of 
carriers per route, as Professor Kahn indicated, is the 
presence of low-fare carriers. And by that measure, low-fare 
carriers' share of passenger miles is now at an all-time high, 
at 12 percent. But the influence of low-fare carriers goes 
beyond their own share of passenger traffic because they 
influence the fares of other carriers who compete against them, 
as the chart illustrates.
    If you look at the percentage of traffic that flies on 
routes with low-fare competition, that measure, as well, is at 
an all-time high of 42 percent.
    Senator DeWine. Forty-two?
    Mr. Morrison. Forty-two. I will add parenthetically that 
two-thirds of both of those numbers is due to the premier low-
fare carrier, Southwest.
    Using an even broader definition of the influence of low-
fare competition to include not just routes served but the 
effect of potential competition, I have calculated the effect 
of Southwest Airlines alone influences fares on 94 percent of 
passenger miles in the country, just Southwest Airlines.
    These figures on the extent of competition are of interest 
because we know both theoretically and empirically that more 
competition leads to lower fares. But as Professor Kahn said, 
we can just look at fares to see what has happened. Fare per 
mile adjusted for inflation is at a historical low of a little 
bit less than 14 cents a mile. Indeed, there is a wide 
variation in fares. We documented that in the report of the 
Transportation Research Board panel.
    So adding in the service benefits and fare changes, 
travelers today are saving some $20 billion annually over what 
they would have paid in the years of regulation. So, viewed in 
the aggregate, airline markets are working. But aggregate 
statistics can hide some details.
    Although the average traveler is better off, our estimate 
is that some 20 percent of travelers are paying higher fares, 
the 6 percent that Professor Kahn indicated, but others as 
well. And what I want to do in the second half of my testimony 
is talk about what factors account for these winners and 
    To address that, Cliff Winston and I performed some 
statistical analyses. The original source is documented in the 
testimony. Some of the findings--perhaps most of them are not 
surprising, but they provide a useful quantification of 
conventional wisdom.
    I have good news and bad news. The good news is competition 
from Southwest Airlines saves travelers some $10 billion a 
year. Competition from other low-fare carriers saves travelers 
some $1.5 billion a year. The bad news is the long-term 
exclusive use gates at airports and other lease policies that 
make it difficult for airlines to acquire new gates, by our 
estimates, cost travelers $3.8 billion annually.
    Slot restrictions at the slot-controlled airports, the 
high-density rule, costs travelers $.6 billion annually. Hub 
dominance costs travelers $.4 billion annually, but this 
appears to be because, with a few exceptions, Southwest 
Airlines does not operate from dominated hub airports.
    What we have found is that fares at hubs are no higher than 
fares elsewhere that Southwest doesn't serve. Southwest has 
such a huge impact on the outcomes in the marketplace that one 
needs to in almost any analysis take their presence or absence 
into account when making comparisons.
    Finally, in the bad news category, we were provided by the 
Department of Transportation a list of some 20-odd routes where 
their unfair exclusionary practices criteria appeared to have 
been violated. The routes on which those violations occurred 
cost travelers $20 million a year. So that is a rather small 
number compared to the billions that I have been referring to 
    What can we do about it? Low-fare competition, especially 
from Southwest, has a powerful effect on fares. To increase the 
likelihood of the next Southwest coming on line, we could, and 
I think we should, eliminate restrictions on foreigners owning 
and operating U.S.-based airlines.
    We need to do something, and I am not entirely sure what, 
to increase gate availability. From what I have read, it 
appears that existing policies of the DOT or existing 
regulations of DOT and of airport operators provide them with 
more leverage than they are using to open up gates, but that is 
certainly an area that needs some attention. Remove slots and 
replace them with congestion-based takeoff and landing fees. I 
am not up to date on exactly what has happened, but I know some 
legislation has been passed in that regard. Finally, I differ 
with Professor Kahn about the importance, but more importantly 
about the avenue to take with alleged predatory behavior. I 
believe it should reside with the Department of Justice.
    To summarize, to answer the question: airline competition: 
clear skies or turbulence ahead, I would say clear skies with a 
little light chop.
    [The prepared statement of Mr. Morrison follows:]

               Prepared Statement of Steven A. Morrison*

    * Portions of this testimony rely on and are extracted from Steven 
A. Morrison and Clifford Winston, ``The Remaining Role of Government 
Policy in the Deregulated Airline Industry,'' in Sam Peltzman and 
Clifford Winston, eds., ``Deregulation of Network Industries: What's 
Next?,'' Washington, DC: The Brookings Institution, 2000 (forthcoming). 
The paper is available in the research section of my web site.


    From time to time since airlines were deregulated over 20 years 
ago, the question of the functioning of airline markets arises. For 
example, seven years ago, after four years of staggering losses, a 
national commission was formed to investigate whether the deregulated 
airline industry was capable of achieving financial viability.\1\ The 
industry's fortunes improved without any regulatory intervention and 
for the last several years it has been recording record profitability. 
Recently, concern has shifted from the plight of airlines to a concern 
for their passengers. This testimony summarizes recent empirical 
analyses I have undertaken to address the state of competition in the 
airline industry.
    \1\ The National Commission to Ensure a Strong Competitive Airline 
Industry, Change, Challenge and Competition: A Report to the President 
and the Congress, August 1993.

                            THE BIG PICTURE

    Figure 1 shows the trend in the number of ``effective competitors'' 
\2\ at the route level from 1977, the year before formal deregulation, 
through 1999. The number of carriers per route averaged about 1.7 in 
1977 and rose to about 2.5 by 1986. Following the merger wave of the 
mid-1980s and bankruptcies in the early 1990s, the number of effective 
competitors per route has been fairly constant since 1993 at 2.2, an 
increase of more than 30 percent since 1977.
    \2\ Because a simple count of carriers on a route would treat a 
carrier with a large market share of equal importance as one with a 
small market share, a measure of competition that takes market share 
into account is appropriate. In particular, I use the inverse of the 
widely used Herfindahl-Hirshman index (HHI), which equals the sum of 
the square of each firm's market share. Thus, if two carriers each had 
a 50 percent market share, the HHI would be 0.50 \2\+.050 \2\=0.50. 
Inverting gives two equal-sized competitors. The same result would 
occur with three carriers with market shares of two-thirds, one-sixth, 
and one-sixth.
    In addition, however, to the number of carriers on a route, the 
identity and business models of those carriers are also important, 
especially if one's ultimate interest is the effect of competition on 
fares. Figure 2 shows two measures of the influence of low-fare 
carriers. The first measure is the percentage of domestic passenger 
miles flown by low-fare carriers. This measure increased steadily from 
1978 until 1985, declined in 1986 with the bankruptcy/merger of People 
Express and has grown steadily since 1987. In 1999 low-fare carriers 
accounted for 12 percent of domestic passenger miles, the highest 
percentage ever.\3\ The second measure, however, gives a more accurate 
picture of the effect that low-fare carriers have on airline 
competition and fares. This measure takes into account that the 
influence of low-fare carriers is greater than their share of traffic 
because they influence fares of other carriers flying the same routes 
(in this case, the same city pair). In particular, it measures the 
percentage of domestic passenger miles flown (by all carriers) in city-
pair markets that are served by low-fare carriers. This measure follows 
the same pattern as the previous one: increasing until 1985, declining 
until 1987 and increasing since then. In 1999, low-fare carriers 
influenced fares on routes accounting for 42 percent of domestic 
passenger miles, an all time high.\4\ In addition, using a broader 
measure of the effect of low-fare carriers that incorporates the effect 
of actual route competition, competition on nearby routes, and the 
effect of potential competition, I have found that Southwest Airlines 
alone affects airfares on routes that account for 94 percent of U.S. 
domestic passenger miles.\5\
    \3\ About two-thirds of the passenger miles flown by low-fare 
carriers are accounted for by Southwest Airlines. Although the 
passenger miles of other low-fare carriers were at an all-time high in 
1999, their share of passenger miles (4.0%) was slightly less than in 
1997 (4.1%) when it reached an all-time high.
    \4\ Again, about two-thirds of this is due to Southwest Airlines.
    \5\ See Steven A. Morrison, ``Actual, Adjacent, and Potential 
Competition: Estimating the Full Effect of Southwest Airlines,'' 
unpublished manuscript (available in the research section of my 
    Interest in the extent of competition in the industry stems from 
the observation that more competition--especially from low-fare 
carriers--leads to lower fares. This is addressed directly in Figure 3, 
which shows domestic airline yield (average fare per mile) from 1970 to 
1999. Fares, adjusted for inflation, have fluctuated, but followed a 
declining path since 1971. Compared with 1976, before the regulatory 
reform that preceded deregulation in 1978, fares have fallen 40 
percent. In 1999, real yield was a bit less then 14 cents, its lowest 
level ever. However, as shown in the figure, fares were falling even 
before deregulation. How much of the decline in fares is due to 
deregulation and how much would have happened anyway (due to factor 
prices and technological change, for example)? This is addressed in 
Figure 4, which shows a conservative estimate of how much lower fares 
are due to deregulation.\6\ For the last six years fares have been 
about 27 percent lower than they would have been if they were 
regulated. (Thus, about two-thirds (27/40) of the fare decline since 
1976 can be attributed to deregulation). Further investigation shows 
that 80 percent of passengers, accounting for 85 percent of passenger 
miles, pay lower fares than the estimate of regulated fares.
    \6\ The estimate compares actual deregulated fares with an estimate 
of what fares would be if they continued to be regulated. Of course, 
one has no way of knowing for sure what regulated fares would be. 
However, a good guess can be made with an updated version of the fare 
formula that the CAB used during the last few years of regulation. See 
Steven A. Morrison and Clifford Winston, The Evolution of the Airline 
Industry, Washington, DC: The Brookings Institution, 1995.
    Deregulation has also affected service. Previous research has found 
that travelers have gained substantially from the increase in flight 
frequency facilitated by the acceleration ofhub-and-spoke 
operations.\7\ Because deregulation freed airlines to serve all 
markets, travelers have also gained from having to make fewer 
connections that require changing airlines. These gains have been 
partially offset by more crowded flights, travel restrictions that are 
inconvenient for business travelers (especially the required Saturday 
night stay), a few more connections, and slightly longer flight times 
because of congestion. Accounting for fare and service quality changes, 
the annual net benefits to travelers from airline deregulation 
currently exceed $20 billion.
    \7\ Steven A. Morrison and Clifford Winston, ``The Evolution of the 
Airline Industry'' provides a detailed discussion of the findings 
reported in this paragraph. The benefits from increased frequency are 
nearly as important as the benefits from reduced fares, amounting to 
more than 80 percent of the benefits from lower fares.

                              THE DETAILS

    The results presented in the previous section indicate that, on 
average, travelers have benefited from airline deregulation but that a 
small minority has not. In this section I take a more disaggregate view 
to try to identify those factors that distinguish the winners from the 
losers and to identify any trouble spots and possible policy remedies.
    To address this question, my colleague Cliff Winston and I used 
regression analysis to examine the factors that influenced fare changes 
between 1978:4 and 1998:4 on the 1,000 most heavily traveled routes in 
1998.\8\ We found that increased competition, especially from Southwest 
Airlines and other low-fare carriers leads to lower fares. In 
particular, we found that competition from Southwest Airlines accounted 
for $9.7 billion of the fare savings since 1978:4. Competition from 
other low-fare carriers accounted for $1.5 billion, while additional 
competition from pre-deregulation carriers accounted for $0.4 billion.
    \8\ Steven A. Morrison and Clifford Winston, ``The Remaining Role 
of Government Policy in the Deregulated Airline industry,'' in Sam 
Pelzman and Clifford Winston, eds. ``The Deregulation of Network 
Industries: What's Next?,'' Washington, DC: The Brookings Institution, 
2000 (forthcoming) (available in the research section of my web site).
    In another regression we examined the factors that influence the 
level of fares (rather than the change in fares) on the same set of 
routes used above. We found that the most important factor that 
increases airfares to travelers was (lack of) gate availability. In 
particular, we found that, other things equal, airports with a higher 
fraction of gates available for use by other airlines (i.e., generally 
common use gates) had lower fares. Quantitatively, if all airports had 
common use gates, or other arrangements that precluded exclusive use of 
gates by incumbent airlines, travelers would save $3.8 billion 
    Slots (at O'Hare and LaGuardia) raise fares by $0.6 billion 
    Domination of hub airports raises fares by $0.4 billion annually, 
other things equal. Figure 5 sheds additional light on the hub premium 
issue. The figure shows the percentage by which fares at 12 
concentrated airports differ from fares at two sets of control groups. 
Although the results differ from airport to airport, on average, fares 
at concentrated hub airports are 23 percent higher than at all other 
airports. But, as indicated above, the effect of Southwest Airlines on 
fares is so important, that when the comparison group excludes airports 
that Southwest serves, the average concentrated airport has fares 6 
percent lower than the comparison group.\9\ Thus, it appears that what 
looks like a hub premium is actually a ``premium'' that airlines charge 
anywhere they can when they do not compete against Southwest.
    \9\ This comparison is potentially misleading because three of the 
concentrated airports are served by Southwest (Salt Lake City, St. 
Louis, and Detroit). However, if these three airports are eliminated 
from the analysis, fares at the nine remaining concentrated airports 
are 29 percent higher than at all other airports and 1 percent lower 
than the comparison group that excludes airports served by Southwest.
    On routes where carriers appear to have violated the Department of 
Transportation's Unfair Exclusionary Practices criteria, fares are 
lower during the periods when the alleged transgressions are occurring 
and return to their previous levels after the episodes are over. We 
found that fares on these routes, before and after the alleged 
predatory activity, are $20 million higher than on otherwise comparable 


    By and large, airline markets are working and competition is 
healthy. There are a few trouble spots, however. By far the most 
important is access to gates at airports. Slot restrictions are a 
distant second, followed by hub dominance. The quantitative importance 
of alleged predatory activity is quite small.
    Although competition is robust, more competition would be better. 
The effect of Southwest Airlines on competition and fares shows that 
just one airline can have a large impact on competition and fares if it 
is well financed and well managed. The likelihood of another Southwest 
entering the industry would be increased if federal limits on 
foreigners owning and operating U.S.-based airlines were eliminated.
    The FAA/OST Task Force \10\ has recommended several policies to 
improve gate availability at airports as has the TRB Committee for 
Study of Competition in the U.S. Airline Industry.\11\ These range from 
using the AIP and PFC programs to improve gate availability to airport 
authorities buying back gates from dominant incumbents. Although I do 
not have a particular policy in mind, any policy that improves gate 
access should have a large impact on competition.
    \10\ FAA/OST Task Force, ``Airport Business Practices and Their 
Impact on Airline Competition,'' October 1999.
    \11\ Transportation Research Board, National Research Council, 
``Entry and Competition in the U.S. Airline Industry,'' Special Report 
255, Washington, DC: National Academy Press, 1999.
    As for slots, I believe they should be eliminated and replaced with 
congestion-based takeoff and landing fees.
    Although I have found that the likely effect of alleged predatory 
behavior is small, it should not be ignored. In cases of alleged 
predatory behavior by airlines, I believe the Department of Justice 
should investigate and take appropriate action, rather than the 
Department of Transportation.






    Senator DeWine. Good, very interesting.
    Mr. Morrison, do you want to summarize for me in descending 
order the items that are causing the problems as far as lack of 
competition? Give me that again.
    Mr. Morrison. Gates.
    Senator DeWine. Gates, number one.
    Mr. Morrison. Number two is slots. Number three is hubs.
    Senator DeWine. Gates, slots, hubs.
    Mr. Morrison. Number four is alleged predatory behavior.
    Senator DeWine. OK, and that is the order?
    Mr. Morrison. Yes.
    Senator DeWine. Professor Kahn, you mention in your 
testimony that having the Department of Transportation take 
action to prevent unfair exclusionary practices may actually 
weaken competition, and I agree that that is a concern. How 
would you protect against that sort of unwanted result?
    Mr. Kahn. I am not sure that I have an easy answer. We have 
the experience of the Federal Trade Commission in dealing with 
the entire economy. It has almost precisely the same authority 
under Section 5 of the Federal Trade Commission Act. I have 
seen many criticisms of the FTC, but I have never heard it 
seriously maintained that, on balance, they have weakened 
    One of my main reasons for wanting DOT to retain that 
concurrent authority is that the Supreme Court has virtually 
written predation out of the antitrust laws. They have 
expressed the opinion time and again that predation is rarely 
tried and even more rarely succeeds.
    And by an interesting coincidence, the Supreme Court--I 
suppose it is not surprising, given the fact that they are 
lawyers--is a victim of a perceptual lag. They are all trained 
by the University of Chicago and the economics profession has 
moved about 15 years past the University of Chicago on the 
question of whether predation is or is not a real problem. And 
since I have referred to myself as a premature post-Chicagoan, 
I take enormous satisfaction from that fact. And I would urge 
you to look at the Allvine-Dixit memorandum.
    So it is a question of what your opinion is about the 
sufficiency of the Sherman and Clayton Act prohibitions as they 
have been interpreted by the Supreme Court. I think there is an 
enormous lag there, and I think that we should give DOT a 
chance. I think their sensitivity to the danger of interfering 
with good competition is very clear.
    But the way I weigh the dangers, I weigh the danger much 
more on the other side because, as I pointed out, they would 
never move in a situation in which competition before the entry 
of the entrant was effective. They would move only in those 
particular situations in which somebody took the initiative to 
come in, cut fares sharply. Then, of course, they are all in 
favor of competition, but only as long as it is responsive and 
it is not initiating.
    The only other point I would make and then I promise to 
stop is that I have had correspondence with Professors Winston 
and Morrison on this point. Their measure which demonstrates 
that predation has cost consumers virtually nothing is a 
measure of the extent to which, after assertedly predatory 
conduct, fares move up beyond the entry at which they were 
before the competitor came in.
    In other words, if you have entry and fares go down 50 
percent, and then you have assertedly predatory tactics and 
fares just go back up to the pre-entry level, their measure 
would say zero cost to consumers. I think most of us would 
define predation as being successful to the extent it restores 
fares to the previous level. I recognize that that might be an 
extreme the other way.
    They have also introduced a second measure, which is, well, 
if it restores fares to the previous level and those fares were 
unusually high, that is compared with fares elsewhere, then to 
the extent that they were unusually high, we will count that as 
a cost to consumers.
    My concern is with the pattern of pricing in the industry 
all through the industry that has these very high unrestricted 
fares. So, again, these measures which they identify, I think, 
minimize the costs of what many of us would feel were the costs 
of predation.
    Mr. Morrison. May I follow up?
    Senator DeWine. Absolutely.
    Mr. Kahn. As he has in writing.
    Mr. Morrison. Indeed, what we found was that, of course, 
while these alleged predatory activities are going on, fares 
are lower, and that when they are finished, fares go up to the 
level that they were before, not higher, but that those fares 
before and after were some $20 million, the number I mentioned 
before, on the aggregate higher than on otherwise comparable 
    As far as the notion that predation in one market spreads 
to others, I suspect that is true, but there is no way that I 
can figure out to measure it, so the extent of it is 
    Mr. Kahn. Yes. That was the other point I made in my letter 
to them that one of the main bases for the post-Chicago view of 
predation is that engaging in this kind of tactic protects the 
price level all over your network because it deters future 
entry. And, of course, Professors Winston and Morrison are 
absolutely right. There is no way of measuring it, but, of 
course, the fact that something can't be measured doesn't mean 
it doesn't exist.
    Senator DeWine. Senator Kohl?
    Senator Kohl. Thank you, Mr. Chairman.
    Professor Kahn, we have heard from several start-up 
airlines that they find it very difficult to compete with the 
established airlines at their hubs where the incumbents 
dominate the market. Northwest in Minneapolis, US Air in 
Pittsburgh, and Delta in Atlanta are just a few examples, 
although there are many others.
    When a new airline comes into a market, the established 
airline can and oftentimes does drastically cut its fares to 
undersell the entrant and can add vastly more capacity. Some 
airline critics and consumer advocates call these tactics 
predatory and say that they ought to be illegal under antitrust 
    Do you have a view on that, Mr. Kahn?
    Mr. Kahn. Well, my view is that some of those are almost 
certainly predatory, sufficient even to deter a Southwest 
Airlines from challenging the incumbent hub-dominating 
    Now, there are two reasons why Southwest stays out. Partly, 
when the hubs are congested, they can't engage in their really 
efficient, rapid turnaround operations. But the other reason, I 
know, is that if they were to try to come into Minneapolis to 
remedy the situation that you described, they would run into a 
buzz saw.
    Now, it is generally understood in the industry that you 
don't really take on Southwest. They have a very great 
longevity. But it is also understood that Southwest doesn't go 
into Boston, A, for the perfectly good reason that I have 
mentioned, but, B, because it is already dominated and it would 
start this kind of major price war. So, of course, they locate 
at Providence and Manchester, which is great, and at Baltimore, 
which is again great.
    I mean, they are public benefactors, there is no question 
about it. But I think that even they are deterred from 
challenging directly--and I have heard this example--
specifically in Minneapolis because of what they know the 
response is likely to be.
    Senator Kohl. Professor Morrison, are you concerned that 
these types of tactics practiced by some of the airlines will 
harm consumers by driving competition out of the market or 
preventing them from getting into the market in the first 
place? Doesn't it bother you?
    Mr. Morrison. Yes. My problem is what to do about it.
    Senator Kohl. Well, what about this DOT authority to 
commence an action?
    Mr. Morrison. Well, the DOT authority, in my view, is 
fairly vague, these best alternative responses, and depending 
on where these data would come from, it might be 6 months after 
an action that you knew whether it was legal or illegal.
    As was mentioned by Senator DeWine and as everybody knows, 
there is currently a Department of Justice case against 
American Airlines. I know that American Airlines and its allies 
say that the Justice Department wants to create new law. And I 
gather what they mean by that is a different definition of 
cost, and time will tell.
    Senator Kohl. Well, in the case of Minneapolis, for 
example, if they called in Northwest and said, you know, we are 
watching this very carefully, and detailed what they are 
observing and how important it was, in their opinion, to keep a 
competitor fairly in business or not to drive them out of 
business unfairly, and that, you know, while they are not going 
to commence an antitrust action, they have the authority to 
take a careful look at this and bring to bear some very serious 
consequences, don't you think that that provides them with the 
ability to do what you are concerned about?
    Mr. Morrison. Yes. As I recall, they did that without these 
new guidelines under Secretary Pena when Reno Air entered into 
their markets. And they responded very aggressively, as I 
recall, with a phone call, or maybe it was more than that, from 
the Secretary. They moderated their response.
    Senator Kohl. Professor Kahn, I believe that all American 
consumers owe you a debt of gratitude for the ground-breaking 
work you have done to promote airline deregulation. Sitting 
here today in 2000, I wonder how you would assess the state of 
airline competition today. More specifically, has deregulation 
brought about lower fares and increased consumer choice, as you 
imagined, and what are the biggest competitive problems that we 
are looking at 20 years after deregulation?
    Mr. Kahn. I have no disagreement at all with the general 
conclusions of Drs. Winston and Morrison. The benefits to 
travelers, the $20 billion that they estimate--you understand 
these estimates are very difficult because you have to know 
what fares would have been in the last 20 years and what 
regulatory policies would have been adopted and changed if we 
hadn't deregulated.
    But I don't even have to look at their estimates. I can 
look around me and I see that last year 94 percent of all 
mileage was at discount fares, and that the average discount 
from the, I say, perhaps outrageous full fare is 69 percent. 
And I see the behavior of carriers. There couldn't have been 
more than 15 percent of all mileage at discount fares when it 
was regulated, and once we gave them freedom, they clearly 
competitively were pricing down. I would say that deregulation 
has exceeded my timid expectations by far.
    Senator Kohl. Are there some major problems that you think 
need to be addressed?
    Mr. Kahn. Well, I think that, number one, clearly the 
infrastructure. I mean, the system that we have for providing 
air traffic control and airports could only have been designed 
by a sadist. The pricing of access to airports, particularly at 
times of congestion, and to air traffic controls systems is 
    When we had all those delays last summer and the airlines 
responded, well, we schedule our flights when the travelers 
want to travel--and they are absolutely right, but if you 
charged for paintings the way you charge for landings at 
airports, so much per pound, regardless of the day of the week, 
regardless of the amount of congestion, regardless of the week 
of the year, you would have riots where Van Gogh paintings were 
for sale.
    I mean, a market system would permit those rates at those 
airports and access to air traffic control to be much higher, 
and then use those surplus revenues to subsidize use of the air 
traffic control system and access to those airports off-peak or 
at feeder airports, and we might get some redistribution of the 
    And that is what we did when I was chairman of the New York 
Commission. When I came, rates on Long Island were 5 cents a 
kilowatt hour, morning, afternoon, evening, summer, winter, 
spring and autumn. By the time I left, rates to big users, for 
whom alone you could have the necessary meters, were 3\1/2\ 
cents, 3 cents, 2\1/2\ cents, and in the summer, when the 
temperature got above 84 degrees, 30 cents. That is sensible 
    So the Government is simply not following elementary 
economic advice, A, in the way it finances investment in air 
traffic control, the fact that it is subject to the budgetary 
process. There has got to be some sort of separate 
corporatization where it can raise its own capital and then can 
price intelligently. That is one.
    The second is the international, including the one that 
Steven mentioned, the prohibition of foreign ownership. I want 
Richard Branson to come in here with Virgin Airlines. And the 
third, I think, is this threat to independent entry of the kind 
of violent competitive response that many of them can tell you 
they encountered, temporary violent response, when they dare to 
come in and bring in competition.
    Senator Kohl. Just to finish my questioning with that line, 
in this specific case, Minneapolis-Milwaukee, Sun Country 
Airlines, is clearly beneficial to consumers. Mr. La Macchia 
testifies that they are going to put them out of business. He 
doesn't have much longer to go.
    If he would suggest that that is what is happening,what can 
we do, what should we do, either one of you?
    Mr. Kahn. I have been in communication with the Department 
of Transportation trying to see if we could devise a test that 
would not be, I think, as impossible to administer, for the 
reasons that Professor Morrison has mentioned. Was there a more 
profitable course that they have abandoned, and in abandoning 
it, they have taken losses; that is, they are pursuing a less 
profitable course than otherwise. That is an acid test of 
predation, and I find it extraordinarily difficult to do so.
    I find myself attracted, as other economists have been, to 
the notion that if an incumbent carrier responds in this way, 
with sharp reductions in rates and increasing in the offer of 
discount seats and capacity, and the entrant is driven out, 
then the incumbent should be required to stay there to retain 
those offerings for something like 2 years. That would be a 
real test of whether they really thought that they were taking 
the most profitable course or whether they were designedly 
taking losses which could be explained only in the expectation 
of succeeding in predation.
    Senator Kohl. Ok. Mr. Morrison.
    Mr. Morrison. I agree with Professor Kahn that it is 
difficult. As to the 2-year idea, it is an intriguing idea. I 
don't know how easy even that would be to enforce, what with 
the fare structures the way they are with quite variable fares. 
I really don't have an answer. It is a difficult question 
because of the structure of airline costs, and it will be 
interesting to see what the outcome of this American Airlines 
case is.
    Mr. Kahn. I think it is partly like pornography. I can't 
define it, but I know it when I see it. I am quoting a very 
distinguished predecessor.
    Senator Kohl. I will just end with this observation. In a 
sense, with great respect and deference to what you are saying, 
it is pretty basic to this hearing. What do you do in those 
situations where you do have clearly, or apparently, some 
predatory situation that is going to drive out a competitor we 
don't want to drive out. I don't have an easy answer either, 
but that is why we are here today.
    And I am somewhat troubled by your suggesting that you 
don't have any remedy that you would----
    Mr. Morrison. Well, my remedy is the Department of Justice.
    Senator Kohl. Antitrust?
    Mr. Morrison. Yes.
    Senator Kohl. Long, drawn-out?
    Mr. Morrison. It is better than the alternative.
    Senator Kohl. By that time, somebody like Sun Country might 
be long gone.
    Mr. Morrison. Might be.
    Senator DeWine. Let me ask both of you this question. One 
of the advantages of the hub and spoke system is that it allows 
the airline to serve a number of markets that would not 
economically be feasible using the point-to-point system.
    With the increasing use of regional jets which are cheaper 
and smaller than conventional domestic jets, some of those 
markets may now be able to support point-to-point service. Will 
regional jet service, in your opinion, decrease the economic 
value of hubs? How will that impact all that?
    Mr. Kahn. My crystal ball on this is going to be much 
poorer than Mr. Carty, who will follow me and who kind of 
instructed me many years ago on the benefits of hub and spoke 
in very lucid testimony that he gave.
    Certainly, the availability of regional jets is a very 
hopeful development. There are, I understand, major 
difficulties in getting the unions to accept them, and I hope 
that those can be worked out because there are point-to-point 
markets that it appears could economically be served. That 
would tend to encourage the possibility of entry and avoiding 
the congestion at hubs, which is another very important 
    I seriously doubt that it will diminish in a major way the 
importance of hub and spoke. I mean, the market has told us 
what we had great difficulty in predicting when we were trying 
to regulate, that hub and spoke is an extraordinarily efficient 
way of providing improved service. And whether or not there is 
a hub premium, if you leave out Southwest from the control 
group or you do not, it is a wonderful place to live in terms 
of convenience of service.
    Senator DeWine. Professor.
    Mr. Morrison. I agree with Professor Kahn. I think that 
there are obviously markets where the regional jet can and does 
and will operate, but to expect it to have a significant effect 
to dismantle hubs, I don't think is going to happen.
    Senator DeWine. Let me ask another question. Both of you 
have talked about and stressed improved access to airports as 
an important way to increase competition. Do you want to share 
with us any specific suggestions as to how to improve this 
    Mr. Morrison. As I said, I am not an expert on this, but 
various things I have read recently indicate that the Secretary 
of Transportation, FAA, and airport operators have authority 
unused at this time that can be used to free up even gates that 
are under exclusive-use, long-term leases.
    The passenger facility charge, PFC program, appears to be 
or has the potential to be a way to increase the number of 
gates. An aspect of that program is that gates constructed 
under it cannot be exclusive-use, long-term gates. So that is 
something that the evidence isn't in yet. One can be hopeful 
    But as I said, I think there is enough on the books already 
if it were utilized, taken seriously, and used aggressively to 
free up airports at these hubs that are where the gates are 
    Senator DeWine. Professor.
    Mr. Kahn. I am sorry. I don't have anything more to add to 
that. We have a very large number of assertions to that effect, 
and the staff of the national research committee looked at that 
and felt that there was substance to it. Clearly, it is a 
carryover of the method by which airport construction was 
financed in the past, and that carryover has simply got to be 
    Senator DeWine. We want to thank both of you very much. It 
has been very helpful. Thank you for coming.
    Let me invite our second panel to come up, and as you are 
coming up, I will introduce you.
    Donald J. Carty became Chairman, President, and Chief 
Executive Officer of American Airlines in 1998, after having 
served as President of AMR Airline Group and American Airlines 
since 1995. He also serves as Chairman and interim Chief 
Executive of Sabre.
    Robert Ferguson III has served as Chairman of the Board, 
President, and Chief Executive Officer of Midway Airlines since 
February 1997. Mr. Ferguson also sits on the board of directors 
of Capital Cargo International Airlines, an air freight 
company, and in the past has served as CEO of Continental 
    Bill La Macchia has been President and Chief Executive 
Officer of Sun Country Airlines since 1998, and has been an 
instrumental part of Sun Country's success and growth into a 
$250 million company.
    Mr. Ferguson, we will start with you. Thank you all for 



    Mr. Ferguson. Thank you very much. Mr. Chairman, Senator 
Kohl, committee members, thank you for the opportunity to speak 
with you today. I am the President of Midway Airlines. It is 
the only airline in America named for an airport it doesn't 
serve. We are presently based in Raleigh-Durham, NC.
    I have been involved in the aviation business now for some 
20 years, and I think it is fair to say I have seen a number of 
boom-and-bust cycles through the course of that period. In 
1993, when I was the President of Continental Airlines, I had 
the opportunity to testify before a commission established by 
President Clinton, and one fact struck me as rather remarkable.
    Since 1978, at the inception of deregulation, some 119 
airlines have been started, and 117 of them had failed. That 
didn't seem like a very auspicious beginning. They failed for 
bankruptcies, they failed for mergers, they failed because of 
bad business plans. The chances of success in this business, in 
fairness, if you are a little guy, are very small.
    I would like to tell you, however, that I do think it can 
be done. There are ingredients, and I guess I would like to 
tell you a little bit about Midway Airlines. In our case, we 
believe that you can succeed in this business by beginning with 
a business plan that is not premised on skimming the cream of 
the major air carriers and their established routes.
    Rather, an airline needs to find a growing market, an 
economically vibrant city, perhaps one that is not an existing 
hub, and it is located in our case in Raleigh-Durham. 
Challenging a major carrier directly by initiating service into 
their hubs on the first day of business is not a recipe for 
    Two, the carrier must be well financed. He must have 
patient investors. We have had both. We appreciate it.
    Three, the product being sold, airline seats, must 
absolutely be priced for profitability, not market share. Many 
of the new entrant carriers over the years have priced for 
market share and not profitability.
    Four, you must place an emphasis on safety, dependability, 
low fares, and hopefully, if you are lucky, financial 
stability. We need a loyal workforce and, in fact, ultimately 
we need some support from the Government. We need access to 
airports, we need access to slots and gates. We need a fair 
hearing before Federal regulatory agencies.
    And, in fairness, it would be good if we had an air traffic 
control system that we could fly around with. In our little 
case, in the month of April, 58 percent of the delays we 
experienced were attributable to the air traffic control 
    Of the six elements that I have mentioned, we have tried to 
apply all of them at Midway, and we have applied one additional 
one. We have applied regional jets, 50-seat aircraft, allowing 
us to size the capacity of our equipment for the size of the 
markets in which we participate.
    Raleigh-Durham was not the most auspicious place for a hub. 
I will point out that American Airlines had a little experience 
in Raleigh-Durham. In our opinion, part of the reason they were 
not successful was that the average aircraft size was too large 
for the market. Raleigh-Durham is, after all, the 50th largest 
market in the United States. I don't believe there is another 
hub that is in a city that is less than the 30th largest.
    Midway's story, like so many other start-ups, began trying 
to carve a niche in Chicago. We were unsuccessful. We were 
unable to compete with the dominant carriers, even though we 
carried the name of the city. Unlike Chicago, Raleigh-Durham 
presented us with a great opportunity, and opportunity, in 
fact, carved for us by American Airlines. They built the gates, 
they built the infrastructure, they built the maintenance 
    We seek to serve our customers. We have created a unique 
product. We serve our customers with only technologically 
advanced equipment. It is environmentally-friendly, it meets 
all existing noise standards. We have some 32 aircraft with an 
average age of 2.3 years. Of those aircraft, 22 are regional 
jets. We have 17 new 737's on order, 2 of which have been 
    In fact, over the course of the last 3 years, we have the 
highest on-time performance in the industry, although I speak 
in that respect only in regard to the 10 carriers who publish 
their statistics because I can't know about the others. Our 
baggage statistics routinely beat the major carriers, although, 
as I mentioned, we are once again too small.
    We have more leg room than our typical competitors, 
although I have to say Mr. Carty is about to one-up us in that 
respect. We have leather seats. We think we have friendly and 
professional service and, of course, we focus on safety.
    Finally, we do offer fares that are lower than those of our 
major competitors. We are, however, not a low-fare carrier. We 
are a lower-fare carrier and much higher quality. After an 
initial period of unprofitability, we have been profitable now 
for 13 consecutive quarters, and we take some pride in that and 
the fact that we have built a business plan that actually 
    The most important factor for us, however, is we are in the 
midst of a growing city. Raleigh-Durham grew 24 percent last 
year. It is growing at 35 percent presently. There is robust 
competition in Raleigh-Durham. We have Southwest Airlines and 
we had MetroJet. We have American Airlines and, in fact, we 
have every other major air carrier.
    We have been successful and we intend to continue being 
successful. We have done that partly by avoiding picking fights 
with the major air carriers. We avoid picking major fights with 
them because it is simply a fact of life in the airline 
industry and any industry in which there is very little margin 
that if you try and skim another guy's passengers, he is going 
to react strongly and aggressively.
    We are beginning to feel that we are part of a hub. We are 
finally achieving that status. We have grown from 47 flights 4 
years ago to 236 flights a day. We would react aggressively and 
affirmatively. At some point in the future, we are going to 
have to fly into somebody else's hub, however. We tried it 
once. We flew into another carrier's hub in a market that 
hadn't been served in atleast the prior 10 years, and 
immediately we were matched with overlaying services.
    The Government can play a role; they can be a help. Little 
guys do have a difficult time. Next time we go into a hub, we 
will go with a much more aggressive posture. We will serve it 
as completely as we can and we will be prepared to take the 
losses necessary to sustain those services.
    The other item I would like to mention here briefly is--and 
I know my time is up and I apologize for that. Air 21, when you 
pass that bill, is going to be extremely helpful to small 
carriers like ourselves. In the case of LaGuardia, one of the 
major carriers withdrew two slots from us, coincidentally at 
about the time we started service into one of their hubs.
    In any event, we are going to operate into and out of 
LaGuardia now under the security of having slots available to 
us, and we thank you for that. We are also thanking you for the 
help you are going to give us in DCA. At least we are going to 
get a chance to compete for some slots on the same basis as the 
other carriers achieved them.
    I believe, in the end, the Government can play a role. The 
role, however, is not the one that I heard mention of a moment 
ago. I do not believe the Justice Department is the right place 
for this to reside. I got a $12 million education earlier in 
the 1990's. I do not believe that the competition we see in the 
airline business is against the law. I do think, however, it is 
fair to say it is probably predatory.
    And I was very disappointed that one of your prior 
witnesses took away my final line. I don't know whether, ``I 
know it when I see it'' is basically the bottom line on 
predation. There are clear examples in our business of people 
going out of their way to ensure that other guys don't succeed. 
I do not in any respect believe those are against the law. I 
simply do not believe the laws in this country have been set up 
to address our business, and that is a public policy question. 
It is one for you to answer.
    If we are going to have a standard of predation, it is not 
one that applies to the bread makers or the steel mills or the 
oil businesses of the 1920's and 1930's. We are in a very 
different world and we need to have a lot of debate before we 
    I will make one suggestion. The Department of 
Transportation, with one phone call, or perhaps a bit more, 
managed to get my two slots back from the very same guy who 
took them away, and in that respect I am very thankful and very 
appreciative of the efforts made on our behalf.
    Senator DeWine. Mr. Ferguson, thank you very much.
    [The prepared statement of Mr. Ferguson follows:]

                 Prepared Statement of Robert Ferguson

    Mr. Chairman, Senator Kohl and Committee Members, I would like to 
thank you for the opportunity to testify today. I am the President of 
Midway Airlines based in Raleigh Durham, North Carolina. I have spent 
over 20 years in the aviation industry and have enjoyed the 
considerable challenges it has presented. During this time, I have seen 
many cycles of boom and bust.
    In 1993, as President of Continental Airlines, I testified before a 
Commission appointed by President Clinton and charged with examining 
the Aviation industry. I was stuck by one stark fact. Following airline 
deregulation 119 airlines had been started and 117 had failed. Since 
1993, there have been additional bankruptcies and failures. The chances 
of success in this business are small, but still some airlines do 
succeed and many others will continue to try. I would like to tell you 
what I think are the critical ingredients to success, describe how 
Midway has applied those lessons, and finally address briefly the 
question of the intense competition that exists in this industry and 
what others might call predation.
    It is my belief that in order to start--and perhaps more important, 
to survive--in this industry, an airline must:
    One, build a business plan that is not premised upon cream skimming 
the routes of the major carriers. Rather, the airline needs to find a 
growing, economically vibrant city that is not an existing hub and is 
located in an area of unserved and underserved cities. Challenging a 
major carrier directly by initiating service into one of their hubs on 
the first day of business is a recipe for failure.
    Two, the carrier must be well financed by patient investors who 
understand that they are likely to sustain significant losses before 
reaching profitability.
    Three, the product being sold--airline seats--must be priced for 
profitability not market share.
    Four, the carrier must place an emphasis upon the basics: safety, 
dependability, low fares, and financial stability.
    Five, build a loyal workforce that enjoys the airline business, 
conveying confidence and placing the customer first.
    Six, obtain government support for equal access to airports, slots, 
gates and a fair hearing before federal regulatory agencies.
    These six elements constitute a yard stick that has been 
successfully applied at Midway,but can also be used by other new 
entrant airlines. They are borne out in part by recent market research 
conducted by Harris Interactive Inc. and reported in the Wall Street 
Journal last Thursday April 27th. Mr. Chairman with your permission, I 
would like to submit the article for the permanent record and a copy 
has been provided to you as the last page of my statement.
    Midway's story, like so many other new start ups, began with an 
effort to carve out a niche in a major market, Chicago. In part due to 
restraints on access to gates and to intensified competition from other 
airlines at Chicago's Midway airport, the airline moved its hub and 
headquarters to Raleigh Durham in early 1995.
    Unlike Chicago, Raleigh Durham presented Midway with an ideal 
platform to relaunch itself. American Airlines had decided to withdraw 
from Raleigh-Durham, leaving no dominant competitor in place. Indeed, 
American left an excellent infrastructure of gates, baggage handling 
facilities and maintenance equipment essential to our making a solid 
beginning. Raleigh Durham, as many of you know, is one of the fastest 
growing communities on the East Coast. Our target was to focus on the 
business customer traveling to and from this high growth area.
    To serve our customers, Midway created a product that is unique for 
new entrant carriers. We use only new, technologically advanced and 
environmentally friendly aircraft that exceed all existing noise 
standards. We are an all jet airline with 32 aircraft having an average 
age of 2.3 years. Midway has on order 17 new Boeing 737-700's, two of 
which have already been delivered. We have the best on time performance 
of any airline in the U.S. over the past three years. Baggage handling, 
which is frequently a source of endless complaints, is also among the 
best in the U.S. Midway is too small, however, to be reported with the 
large incumbent airlines and is, thus not in Department of 
Transportation's (DOT) rankings. Further, we offer leather seating with 
extended leg room to all of our passengers on our larger aircraft and 
professional and friendly service coupled with an attention to safety. 
Finally, we offer fares that are generally lower than our competitors. 
We are not, however, a low fare airline; rather, we are a high quality, 
lower fare carrier.
    After an initial start up period of unprofitability following our 
move to Raleigh, we have been profitable for the last 13 quarters. This 
is a significant accomplishment as many other new airlines remain 
unprofitable. The single most important factor in this success has been 
the fact that we are based in a growing city where we have been able to 
build our hub without the need to challenge from the first day of 
business any large incumbent carrier. Rather, we have taken the 
infrastructure left by American Airlines and built a hub that has grown 
from 42 daily flights to 7 states in 1995 to 236 daily flights to 25 
destinations in 14 states. We now have a solid base of loyal customers 
who know our airline and appreciate our attention to detail.
    There is robust competition in Raleigh Durham, however, from both 
Southwest Airlines and USAIR. Other major carriers, including American 
Airlines, are also providing service to Raleigh Durham. Indeed, we were 
able to survive Southwest's entry into Raleigh Durham market, an event 
that has precipitated the exit of many other large and small carriers 
in other markets, because we have been able to quietly build a strong 
hub that serves a somewhat different passenger than Southwest.
    We have consciously avoided picking fights with the major airlines 
by flying directly into their hubs. This strategy has avoided the 
bruising battles that your Committee has heard about repeatedly from 
new airlines, which some call predation. I would call it the ``facts of 
life'' in the airline industry. It is a simple fact that no airline, 
whether it is American, United, or anyone else, can be expected to 
allow a new carrier to begin operating out of their hub without 
mounting a robust and vigorous response. Midway would do the same. 
Margins in this business are very small and a few passengers each day 
siphoned off by another carrier mean the difference between 
profitability and a loss.
    At some point in the future, Midway will have to fly into some of 
the major carriers' hubs. In one instance, we tried it and had to 
withdraw in the face of an intense competitive response. We learned 
valuable lessons from this experience. What I am seeking is to build 
Midway into a strong, profitable competitor. When we make our next 
foray into a major carrier's hub, I will do it on the basis that I have 
the financial resources and passenger base necessary to stay.
    The Government does have an important role to play in this next 
competitive phase. First, to succeed, Midway and other new entrants 
need access to slots, gates and other airport infrastructure on the 
same terms as the incumbents. In the case of landing slots (an issue 
Mr. Chairman that you know about in depth from your experience with the 
Cleveland/London route), the recently passed Wendell Ford Aviation Act, 
known as ``Air 21'', will give Midway 9 slots at LaGuardia airport, 
which we currently lease from a major carrier for $1.88 million per 
year. We are also now able to apply for ``in perimeter'' slots at 
National Airport. The avoidance of these lease costs will be one of the 
most important things I can do to increase our profitability. In the 
future, as airports are expanded with the new airport construction 
funds made available by Air 21, the government needs to ensure that 
some gates are reserve for small carriers.
    The Government also can play an important role in tempering the 
most outrageous behavior by competitors. Every airline needs help from 
DoT. It is critical that DoT use its oversight role to keep the 
competition within bounds. I do not believe that it requires antitrust 
action by the Justice Department. Indeed, from my own experience at 
Continental, it is very hard, if not impossible, to prove an antitrust 
case. What I expect is for the Department of Transportation to simply 
call the incumbent carrier and make it clear that their behavior is 
unacceptable. In the case of Midway, I know that DoT's own actions had 
such a positive result with one of our competitors. This does not mean 
re-regulation of the industry, rather I view it as the carrot and stick 
approach. If you want our help, then stop engaging in unfair 
competition against the other smaller guy. What is the standard to be 
applied? I think it is imprudent to try and put it on paper. This only 
creates controversy, like when DoT issued its competition guidelines. 
To paraphrase the Supreme Court, addressing another issue, we know 
unfair competition when we see it.
    Mr. Chairman, I want to thank you for this opportunity and I would 
be happy to answer your questions.


    Senator DeWine. Mr. Carty.

                  STATEMENT OF DONALD J. CARTY

    Mr. Carty. Mr. Chairman, Senator Kohl, before I begin, I 
have to confess that some of the folks on my legal staff were 
very nervous about my agreement to testify today. So I resolved 
it by asking them for a list of the pros and cons of 
testifying. They came up with 100 for and 87 against. Now, I am 
confused; 100 to 87 was the score of last night's Bucks' win 
over the Pacers. Did I mention that I was rooting for the 
Bucks? [Laughter.]
    Actually, I confess I told my staff if the Bucks win, I am 
testifying for sure. If they lose, I suddenly have a bad throat 
coming on.
    Despite years of study by economists and volumes of 
published reports, competition in the airline industry is still 
widely misunderstood by the general public, and obviously by 
the popular media. In the next couple of minutes, I am going to 
address two of the most enduring myths in airline competition: 
first, that hub and spoke systems are anticompetitive, and, 
second, that airfares are too high because of a lack of 
competition. In addition, I would like to talk briefly about 
the subject of predation in the airline industry.
    Now, the hub and spoke system really is, as Dr. Kahn 
pointed out, very efficient. It allows a carrier to offer far 
more frequent service to a lot more places than could be 
achieved with the very same assets flying only point to point 
by simply combining the traffic from various points onto each 
hub route.
    That exhibit that I have got up there explains the concept. 
The top diagram shows the linear or point-to-point service with 
five aircraft flying between five points in the West and five 
in the East. Now, with point-to-point service, as you can see, 
the carrier can only serve five routes.
    In the bottom diagram, you have got an airline that is open 
to hub between the eastern and the western cities. Now, using 
virtually the same five airplanes, the carrier can link each 
western city with every eastern city and, of course, vice 
versa. In addition to that, he creates service between the hub 
itself and each of the other 10 cities. As a result now, the 
carrier offers service in essentially 35 markets, which is a 
seven-fold increase in the destinations using virtually the 
same number of aircraft.
    So I guess the question is, does the tremendous deficiency 
of hubs lead to dominant airlines that are harmful to 
consumers. Well, obviously, for consumers living in a spoke 
city, the answer is clearly no. Because of competition between 
the networks of different carriers, a spoke passenger, or at 
least most spoke passengers, enjoy frequent, one-stop service 
through a hub to nearly anywhere in the world. And in most 
spoke cities, passengers get to choose from several different 
airlines, each serving that particular spoke to a different hub 
and then on to many of the same destinations.
    Now, that brings you to the question of passengers living 
in the hub cities. The hub and spoke system provides non-stop 
service to scores of destinations; in fact, far more service 
than the local population of the hub city could support without 
the feed traffic from all those other cities. So for all the 
talk of the alleged evils of hubs, what has happened is nearly 
every city in America wants to be one.
    Now, despite the rhetoric, most hubs, and certainly 
American hubs, are very competitive. There is a constant 
competitive pressure, and that pressure can come from four 
different sources. The first is direct competition from another 
airline. Passengers that at least live in our two major 
domestic hubs, Dallas/Ft. Worth and Chicago, have not one, but 
two established hub carriers battling for their business.
    At O'Hare, United Airlines is significantly larger than 
American, and Delta Airlines operates a large hub at Dallas/Ft. 
Worth. So this creates substantial direct competition on many 
routes. And beyond the routes where there actually is 
competition, when there is a second hub carrier, you have the 
threat of potential entry on the routes where that carrier 
doesn't yet operate.
    Second, in addition to the direct competition that you can 
have from major carriers, established low-fare carriers like 
Southwest offer tremendous competitive pressure using 
alternative airports; in the case of Dallas/Ft. Worth, Love 
Field, and in the case of Chicago, Midway. And those airports 
and that particular carrier in this instance competes for the 
same hub-originating passengers that DFW and O'Hare do.
    Third, the longest established low-fare carriers are not 
alone. New entrants continue to begin new service on Dallas/Ft. 
Worth routes, and some have operated successfully there for a 
number of years now.
    And, last, because most hubs are also spokes from every 
other hub, large or small, the most heavily traveled routes 
across the United States really have become the battle ground 
on which the competitive skills of one hub carrier are pitted 
against another.
    Now, these sources of competition combine to challenge at 
least our carrier's every move, and this intense competitive 
pressure has had the desired effect. At the same time, American 
tries to remain price-competitive in our hubs and across our 
system. But we also spend a lot of other money on competition. 
We will invest over $2 billion in ground facilities in the next 
several years. We have on firm order about $6.7 billion worth 
of new aircraft, and in 1999 spent more than $800 million on 
on-board catering, more per passenger than any other major 
carrier in the United States. And we have begun a $400 million 
program to refurbish the interiors of our existing fleet, 
including the program that Bob Ferguson mentioned to create 
more room throughout all our coach cabins.
    Now, these aren't the steps that you would expect of a 
dominant hub monopolist. These are investments that we need to 
make in product and service because we are engaged in very 
vigorous competition.
    Now, let me turn to the topic of air fares, perhaps the 
most complicated and misunderstood aspect of airline 
competition. The various public reports of trends in air fares 
seem always to conflict with one another. The industry reports 
declining prices and yields, and has year after year after 
year. In the meantime, the media reports trumpet periodic fare 
increases and high business fares.
    Well, who is right? Well, it turns out, as Dr. Kahn said, 
both are. When adjusted for inflation, average fares have 
fallen almost 39 percent since deregulation. And while it is 
true that full, unrestricted fares have gone up over the last 
10 years, even those fares have increased onlyslightly more 
than the rate of inflation.
    Now, what is happening is the fare structures, the 
difference between the lowest fare and the highest, are being 
stretched. The highest fares are a little higher, but the 
lowest fares are much lower. And in the end, a large majority 
of our customers are paying less and traveling more, just what 
you would expect in a healthy, competitive industry.
    I will turn now to a few comments about predation in the 
airline industry, and I have to point out that this subject is 
somewhat sensitive because, as Senator DeWine observed, we are 
currently engaged in litigation with the Government, and I 
might add a host of private claimants as a result of that 
Government claim, over allegations of predatory conduct at our 
DFW hub. Accordingly, my comments are going to be limited to a 
very few general observations.
    Most importantly, American Airlines is an outstanding 
airline, and quite frankly I cannot imagine why anyone would 
ever want to fly on any other airline if you can get there on 
American. Nevertheless, there are some people who still seem to 
want to fly on a variety of other airlines, and competition is 
very brisk.
    In that context, I would like to address some assertions of 
predation at DFW which I find particularly difficult to fathom 
because DFW may represent the single most competitive hub in 
America. It has two major carriers, American and Delta, both 
operating hubs there, and we battle it out everyday. The 
Nation's most profitable airline, Southwest, is in its backyard 
at Love Field, along with Continental, and I might add start-up 
carrier Legend Airlines. And DFW has no slots, no limits on 
gates, no other facility constraints that would be a barrier to 
new entry.
    Not surprisingly, Dallas/Ft. Worth has attracted start-up 
carriers over the years. Some who entered this competitive 
environment tried to serve DFW with various combinations of 
point-to-point, single low-fare strategies, infrequent service, 
few on-board amenities, no frequent flyer programs, and/or 
small networks that were unable to sustain profitable service. 
Other start-ups, as in the case of carriers like Bob Ferguson 
referred to, have found better business strategies and have 
successfully operated DFW routes for years. And Dallas/Ft. 
Worth continues to attract new entry even today.
    I think it would turn the antitrust laws completely on 
their head to interpret them to limit the kind of price and 
service competition that we have got in a market like DFW. 
Virtually all airlines match low prices that are launched by 
their competitors. We didn't undercut competitive prices at 
DFW, nor did we ever pursue a strategy to operate a route at 
prices below our variable costs, which, as several people have 
testified, is the well accepted measure of predatory pricing 
under the law of the United States.
    In some cases, we did add seats to a route if we thought 
additional capacity was needed because of the increased demand 
that was stimulated by lower fares. That just makes good 
business sense. We are a formidable competitor. We strive to 
provide our customers the service they want at a reasonable 
price, and we invest tremendous resources to improve our 
ability to serve our customers today and win more customers 
tomorrow. That, in our view, is what competition really is all 
    Senator DeWine. Mr. Carty, thank you very much.
    [The prepared statement of Mr. Carty follows:]

                 Prepared Statement of Donald J. Carty

    I would like to thank Chairman DeWine, Ranking Member Kohl and the 
other members of the Committee for inviting me here today. Despite 
years of study by economists and volumes of published reports, 
competition in the airline industry is still widely misunderstood by 
the general public and the popular media. This level of 
misunderstanding is one of the primary reasons I greatly appreciate the 
opportunity to speak with you today.
    In the next few minutes, I will address two of the most enduring 
myths in airline competition: First, that hub and spoke systems are 
anticompetitive, and second that airfares are too high because of a 
lack of competition. In addition, I will talk briefly about the subject 
of predation in the airline industry.
    One of the most dramatic results of deregulation has been the 
formation of hub and spoke route networks. Started in the United 
States, the hub and spoke system is now the most common model for 
successful aviation operations world-wide--and with good reason. A hub 
and spoke system is very efficient. It enables a carrier to serve many 
routes with frequent flights by combining traffic from various points 
onto each hub route.
    The exhibit I have brought today explains the concept. The top 
diagram shows linear or point-to-point service with five aircraft 
flying between five points in the west and five in the east. With 
point-to-point service, the carrier can serve only five routes. In the 
bottom diagram, the airline has opened a hub between the eastern and 
western cities. Now, using the same five aircraft, the carrier can link 
each western city with every eastern city and vice versa, plus create 
service between the hub itself and each city. As a result, the carrier 
can now offer a total of 35 routes--25 between the easternand western 
cities and 10 more between each city and the hub. This result--35 
routes as opposed to 5--is a seven-fold increase in destinations using 
the same number of airplanes.
    In addition to their efficiency, hubs also permit service to much 
smaller communities than linear service could ever support. Suppose in 
our example that Western City Number 1 had only 10 passengers for each 
departing flight bound for Eastern City Number 1. That would never be 
enough to support daily nonstop service. But when combined with other 
passengers originating in Western City Number 1, bound for each of the 
other eastern cities, plus the hub, the route becomes commercially 
    This ability to concentrate traffic at a hub that is bound for 
different destinations allows a hub and spoke carrier to serve each 
spoke city with greater frequency than could be achieved without the 
combination of passengers from the other spoke points.
    Thus, a hub and spoke system affords tremendous efficiency. It 
allows more frequent service to more places than could be achieved with 
the same assets flying only point-to-point. But does it lead to 
dominant airlines that are harmful to consumers?
    To consumers living in a spoke city, the answer is clearly no. 
Because of competition between the networks of different carriers, 
spoke passengers enjoy frequent, one-stop service through a hub to 
nearly anywhere in the world. In most spoke cities, passengers can 
choose from several different airlines each serving the spoke to a 
different, competing hub and then on to many of the same destinations. 
For example, a passenger in Columbus, Ohio flying to Los Angeles can 
travel with a single connection on Southwest through Nashville, on 
America West through Phoenix, on Northwest through Memphis, on TWA 
through St. Louis, on United through Chicago or Denver, or on American 
through Chicago or Dallas/Ft. Worth. The Official Airline Guide shows 
dozens of daily flights via several hubs for this route.
    For passengers living in hub cities, the hub and spoke system 
provides frequent service, numerous nonstop destinations and vigorous 
competition. For all the talk about the alleged evils of hubs, nearly 
every city in America would love to be one. Hub-originating passengers 
enjoy non-stop service to scores of destinations--far more service in 
terms of both frequency and destinations than the local population 
could support without the ``feed'' traffic from other cities.
    Despite the rhetoric, most hubs, and certainly American's hubs, are 
very competitive. There is constant competitive pressure from four 
sources. The first is direct competition from another major airline. 
Passengers living in American's two largest hubs, Dallas/Ft. Worth and 
Chicago, have not one, but two established hub carriers battling for 
their business. At O'Hare, United Air Lines is significantly larger in 
scope and scale than American--a fact we are working very hard to 
change. Delta Air Lines operates a hub at Dallas/Ft. Worth--a hub where 
Delta enplanes more passengers than Northwest at its Memphis hub, 
Continental at its Cleveland hub or Southwest at its hub in Phoenix. 
And Delta has promised to expand its presence at DFW in its recently 
announced growth plan. This creates substantial direct competition on 
many routes and the threat of potential entry on the rest.
    In addition to direct competition from other major carriers, well-
established low fare carriers like Southwest offer tremendous 
competitive pressure using alternative airports like Love Field and 
Midway to compete for hub originating passengers at DFW and O'Hare.
    The long-established low fare carriers are not alone. New entrants 
continue to begin new service on Dallas/Ft. Worth routes, and some have 
operated successfully for several years.
    Last, because most hubs are served as spokes from every other hub, 
large or small, the most heavily traveled routes across the U.S. are 
the battlegrounds on which the competitive skills of one hub carrier 
are pitted against another.
    These sources of competition combine to challenge American 
Airlines' every move and this intense competitive pressure has had the 
desired effect. At the same time American tries to remain price 
competitive in our hubs and across our system, we will also invest over 
$2 billion in ground facilities improvements in the next several 
years--including more than $500 million in the near term at DFW alone. 
We have on firm order about $6.7 billion worth of new aircraft, in 1999 
spent more than $800 million for onboard catering--more per passenger 
than any other major carrier, and have begun a $400 million program to 
refurbish the interiors of our existing fleet, including our program to 
remove two rows of seats from every aircraft to create more room 
throughout our coach cabins. These are not the steps one would expect 
of a dominant hub monopolist. These are investments in product and 
service made by a company engaged in vigorous competition.
    Let me now turn to the topic of airfares--perhaps the most 
complicated and misunderstood aspect of airline competition. For years, 
the fact that on any given route, most carriers charge the same fares 
has been misunderstood as evidence ofcollusion. Nothing could be more 
wrong. The reason fares are often the same is that passengers have 
taught us that they shop for air transportation based on price. That 
fact, coupled with computer systems that allow the whole world to see 
every available fare, means that we can and must match most fares to 
ensure that we do not lose passengers. The fares are the same for the 
same reason you often see identical gasoline prices between gas 
stations on the same corner. Our passengers will rarely pay more for 
American than for United, Delta, Continental or any other airline. So 
if we want to keep our customers flying on us, we have to meet the 
market price.
    What about the reports of ever increasing airfares? The various 
public reports of trends in airfares seem always to conflict with one 
another. The industry reports declining prices and yields, while media 
reports trumpet periodic fare increases and high business fares. Who is 
right? Well, it turns out both are. When adjusted for inflation, 
average fares have fallen almost 39 percent since deregulation 
according to Air Transport Association statistics. However, while it is 
true that full, unrestricted fares have gone up in recent years, over 
the last ten years even those fares have increased only slightly faster 
than inflation. What is happening is that the fare structures--the 
difference between the lowest fare available on a route, and the 
highest--are being stretched. The highest fares are a little higher, 
but the lowest fares are much lower. Most importantly, the number of 
people enjoying deeply discounted fares has soared while the number of 
those buying the full fares has decreased to less than 7 percent of all 
tickets sold. In the end, a large majority of our customers are paying 
less and traveling more--just what you would expect in a healthy, 
competitive industry.
    As the fare structure gets stretched, the art and science of 
revenue management becomes more important. Offering the right number of 
seats at various price points in this range of fares is one of the most 
complex challenges to successful commercial operations. The key is to 
achieve an optimum ``mix'' of high fare passengers and low fare, 
typically leisure passengers. Often in this industry, start up airline 
managers are tempted to try to sell every seat at one low fare for 
simplicity. Because of the low variable costs in the airline industry, 
they cover short-term costs and appear to be making money. However, the 
revenue generated from those fares must not only cover short run 
variable costs, but must eventually, over the long term, cover the much 
higher long-run fixed costs of operations as well--a business reality 
that is often miscalculated by start up carriers.
    A single fixed price would not be good news for travelers or 
airlines. If airlines sold all of their seats at a single price and 
that price was high enough to cover variable and long term fixed costs, 
that average price would be higher than many deep discount fares 
available today. So instead, airlines use a wide variety of prices, 
associated with various fare restrictions to achieve a balance that 
offers enough flexible fares at a higher price for business travelers, 
combined with many deeply discounted seats available for leisure 
travelers. And all of our fares are constantly re-evaluated based on 
competition and market pressures.
    The discussion of single-price efforts by start up carriers leads 
naturally into a discussion of predation in the airline industry. I 
must point out that this subject is very sensitive because we are 
currently engaged in litigation with the government and a host of 
private claimants over allegations of predatory conduct at our DFW hub. 
Accordingly, my comments are going to be limited to a few general 
    First and most importantly, American Airlines is an outstanding 
airline that offers its customers one of the best route networks in the 
world, the best frequent flyer program, terrific customer service 
agents at our gates, ticket counters and reservation offices, 
proficient, well-trained pilots, mechanics and flight attendants and 
now even the most comfortable, spacious interiors in our aircraft. In 
short, I cannot imagine why anyone would ever want to fly on any other 
airline if we can get you there.
    Nevertheless, there are some people who still seem to want to fly 
on a variety of other airlines, which leads me to my second point about 
predation. Assertions of predation at DFW are particularly difficult to 
fathom, because DFW may represent the single most competitive hub in 
America. It has two major carriers operating hubs there and battling it 
out every day. It has the nation's most profitable airline, Southwest, 
in its backyard at Love Field, along with continental and start up 
carrier Legend Airlines. DFW has no slots, gates or other facility 
constraints that would be a barrier to new entry. Not surprisingly, 
Dallas/Fort Worth has attracted start up carriers over the years. Some 
who entered this competitive environment tried to serve Dallas/Fort 
Worth with various combinations of point-to-point, single low-fare 
strategies, infrequent service, few on-board amenities, no frequent 
flyer programs and/or small networks and were unable to sustain 
profitable service. Other start ups have found better business 
strategies and have successfully operated DFW routes for years. Dallas/
Fort Worth continues to attract new entry even today.
    It would turn the antitrust laws completely on their head to 
interpret them to limit the kind of price and service competition I 
have just described at DFW, rather than to promote it. Virtually all 
airlines match low prices launched by their competitors. American did 
not undercut the competitive prices at DFW, nor did we ever pursue a 
strategy to operate a route at prices below our variable costs--the 
well-accepted measure of predatory pricing. In some cases we added 
seats to a route if we thought additional capacity was needed because 
of increased demand stimulated by lower fares. If, at the same price, 
more people want to fly on American Airlines than onanother airline, 
its because every single day our employees get up in the morning and go 
to work to make exactly that happen. We are a formidable competitor 
because we strive to provide our customers the services they want at a 
reasonable price. We work hard and invest tremendous resources to 
improve our ability to serve our customers today and to win over more 
customers tomorrow. That, in our view, is what competition is all 
    I would like to conclude with an observation on an emerging 
competitive issue--global competition. Aviation is a network business. 
The U.S. Government, through its approval and endorsement of immunized 
alliances has created an environment in which U.S. carriers have formed 
partnerships with other airlines throughout the world.
    In a world of alliances, it is particularly important for the 
government to foster an atmosphere of healthy competition. That means 
no one alliance should be favored or disfavored by government policy. 
Just as the networks of the hub and spoke carriers in the U.S. overlap 
and compete with one another for domestic passengers, it is important 
that the international networks of the global alliances overlap and 
thus spur robust competition. Accordingly, we were very pleased when 
Dr. Kahn agreed to support American's application in the China route 
case. As Dr. Kahn pointed out to the Department of Transportation, it 
is essential that a decision in that case take into consideration the 
need to balance competitive opportunities among alliances. The 
Department has an opportunity to achieve this balance by awarding the 
available route rights to a U.S. passenger carrier in a global alliance 
that will compete with the incumbent airline alliances that have held 
historic rights to serve China for many years. We are hopeful that the 
Department will act favorably on this opportunity.


                                         American Airlines,
                      Dallas/Fort Worth Airport, TX, June 15, 2000.
Hon. Michael DeWine,
Chairman, Senate Antitrust Subcommittee, U.S. Senate, Washington, DC.
    Dear Chairman DeWine: On May 2, 2000, I testified at the 
Subcommittee's hearing on competition in the airline industry. As part 
of that testimony, I responded to your question concerning T2, the 
website being developed jointly by several of the major airlines, 
including American. I have since learned that my answer is being 
misconstrued by competitors of T2 in an attempt to mislead 
policymakers. T2's competitors would like policymakers to believe that 
there is some kind of improper agreement among the equity owners of T2. 
I am writing to you to ensure that my answer is properly understood. I 
would very much appreciate it if this letter could become a part of the 
official record of the hearing so that I may stop the improper use of 
my earlier testimony.
    At the hearing, you asked a question about exclusivity provisions 
in the T2 agreement. There has been an extraordinary amount of false 
and misleading information spread about T2 on this point, so it is 
important for me to be very succinct. There are no agreements, tacit or 
express, among the T2 equity holders or participants, to make any fares 
available exclusively on T2. In fact, the written agreements state 
precisely the opposite. Pursuant to the express terms of the equity and 
charter associate agreements, any carrier may make available any fare 
offered on T2 to any, or every, travel agency whether online or 
traditional bricks and mortar.
    What I said at the hearing was that there is an expectation that 
some fares may appear on T2 and not on other sites. The point is that 
carriers are likely to independently choose to make some deeply 
discounted fares available on T2 and their own airline site, but not on 
the other online travel agency sites. This is not because of any 
illicit, exclusive agreement among the airlines, but because of simple 
economics. Every airline has a strong incentive to sell its service 
through the least costly distribution channel. For some very deeply 
discounted fares, a low-cost distribution mechanism may be an essential 
means of preserving a thin margin above variable costs.
    The market-leading structure of T2 is expected to operate at lower 
distribution costs for every airline that uses it to sell air 
transportation services--lower than any other online travel agency site 
such as Travelocity or Expedia. Accordingly, every airline will have an 
economic incentive to make the deepest discounted tickets available 
through T2 because it is the least expensive distribution channel, 
other than a carrier's own website. The attractive economics of T2 are 
even slightly better for the equity holders who have the added desire 
to see their investment in T2 succeed.
    T2 is an innovative response to the very serious problem of 
distribution costs for the airline industry. For some time, the four 
computerized reservation systems have operated largely free of price 
competition for the services they provide to the airline industry. 
Accordingly, the fee paid by every airline to a CRS for each booking 
made by travel agencies or over the Internet has increased at a rate of 
about 7 percent every year since 1994, despite declining computing and 
telecommunications costs. T2's innovative pricing has made the first 
small dent of competition in this area of airline costs. We are hopeful 
that T2 will afford the technological foundation for much greater costs 
savings in the future. Quite frankly, it is time for the CRS owners and 
the largest online travel agencies to respond to the T2 challenge with 
new innovation and price competition, not misinformation and aggressive 
    I would be happy to provide you or your staff with additional 
information on this subject, if you wish. Thank you for the opportunity 
to respond to the misuse of my earlier testimony.
                                                D.J. Carty,
                                      Chairman, President, and CEO.

    Senator DeWine. Mr. La Macchia.


    Mr. La Macchia. Thank you, Chairman DeWine, Senator Kohl.
    Senator DeWine. As you can tell by the bell, we have a vote 
that has just started, but we will proceed with your statement.
    Mr. La Macchia. OK, thank you. I couldn't tell because I 
didn't know what that was, but I am new to this. I am just a 
small-town kid from Wisconsin, so bear with me.
    Senator DeWine. We have heard that before. [Laughter.]
    Mr. La Macchia. Thank you, Mr. Chairman, Senator Kohl, for 
your attention to the issue of airline competition and the 
antitrust concerns associated with market dominance from mega 
    We are a different story. We started as a charter airline 
in 1983. We continue to this day to operate on behalf of tour 
operators, not only that we own, but others that have utilized 
our service through the years. Let me emphasize we are not in 
favor of re-regulation. We are in favor of being given the 
opportunity to compete in a fair and open marketplace, and 
provide choices for the traveling public.
    The major airlines will argue that Government should not 
play a role in promoting competition. Clearly, the major 
airlines have a double standard. They want Government 
assistance when it benefits them internationally, but cry foul 
when new entrants and low-cost carriers ask for the same 
consideration to promote domestic competition.
    Today, I will argue that promoting domestic competition is 
necessary. Predation does occur. Northwest Airlines, the fourth 
largest airline, but arguably the most predatory and 
anticompetitive of the majors, is employing a variety of 
tactics that are questionable under the Sherman Antitrust Act 
and threaten to drive us out of the market. We are based in 
Minneapolis. We had options when we bought this airline to do 
other things, but we felt we were committed to the community, 
and we knew what we were getting into and we believe our 
business plan is just.
    According to third quarter 1999 DOT figures, as you will 
see in this chart, Northwest Airlines and its affiliates 
comprised 68.5 percent of the market share in the Twin Cities, 
their partners being Continental, America West, and Mesaba. 
That doesn't even take into account its charter subsidiary, 
Champion Airlines, which is not required to report to the 
Department of Transportation.
    Competition is good, but it is the intent of the carrier's 
aggressive action which must be called into question. We 
believe it is Northwest's intent to drive us from the market 
and achieve an even greater level of monopolization.
    History shows that Northwest's strategy of predation has 
worked before and, left unchecked, will probably work again. We 
are all aware of what happened in 1993 when Reno Air entered 
the Minneapolis market to provide 3 daily non-stop trips 
between Reno and Minneapolis, with connecting service to West 
Coast cities. Northwest then increased its service, actually 
announced service, as they were not flying that market, and it 
added service from Reno to Los Angeles, Seattle and San Diego.
    Northwest, utilizing its tactics of perks such as frequent 
flyer miles, had targeted the residents of Reno, and at the end 
of the day had really called for Reno to make a business, which 
was to withdraw from the market. Today, a 7-day advance fare 
from Minneapolis to Reno is $1,026.
    By driving Reno Air out of the Minneapolis market and 
raising its fares, it is believed Northwest was able to recoup 
the investment it made in below-cost pricing. Again, this 
disproves conventional wisdom and contestability theories on 
    Now, flash forward 5 years to September 1998. The Northwest 
pilots go on strike and the Minneapolis-St. Paul market is held 
hostage without sufficient choices for air transportation. We 
had made a decision based on our market strategies and the 
manner of the business that we were anticipating losing by not 
flying for one of Northwest's subsidiaries, MLT Vacations, and 
we saw an opportunity in the marketplace that that market was 
indeed deserving of an alternative.
    Studies by the Department of Transportation and the 
Minnesota Planning Commission showed that Minnesotans were 
paying higher than average fares compared to other cities of 
comparable distances, costing them an additional $500 million 
per year.
    This graph was created by Dr. Paul Stephen Dempsey, a 
renowned expert on airline competition from the University of 
Denver. As you can see the pink line--this goes back to the 
first quarter of 1990, over 10 years, and the pink line with 
the box represents Minneapolis-St. Paul. And you will see in 
some cases where there are dramatic decreases on the other 
markets where low-fare competition had come into play.
    As with Reno, Northwest responded vigorously to Sun 
Country's announcement when we began scheduled service on June 
1, 1999. There is a chart which shows exactly the fare 
decreases which complements that of Senator Kohl about the 
Minneapolis-Milwaukee market, and we knew this going into it. 
We knew that the prices would be matched. Our business strategy 
and our marketing strategy was such that we felt we were going 
to be able to create our niche in the marketplace. In addition 
to the fare matches, there were also those of capacity 
    In the chart on the bottom which shows the history in 
markets where we are currently flying, you will see by the 
jagged red line at the top what happened when, in 1996, we had 
entered the Minneapolis-St. Paul market on a scheduled charter 
basis. Northwest completely matched fares and increased 
capacity. We pulled that down and the rates went back up. Then 
you will see how they operate with the thick dotted line as to 
the non-Sun Country markets, non-low-cost competition.
    What constitutes fair competition? Well, what a difference 
a few years makes. In 1992, Northwest said the pricing behavior 
we just described was unfair and even illegal, which points out 
another glaring double standard by Northwest. After sustaining 
enormous losses from an extended price war with American, 
Northwest filed a predatory pricing lawsuit against American. 
Northwest said that American was offering discounts for a 
greater number of passengers and incurring substantial revenue 
losses itself.
    Northwest also alleged that American engaged in illegal 
anticompetitive and monopolistic activities which were intended 
to further eliminate competition. In fact, Northwest Chairman 
Gary Wilson referred to American's then CEO, Bob Crandall. ``It 
is not fair, it is time that the bully in the schoolyard got 
punched.'' Well, aftertheir unsuccessful lawsuit, a new and 
even more forceful bully came into the schoolyard, that being Northwest 
    In addition to its own fleet of 428 aircraft, Northwest is 
utilizing its tour operator, MLT Vacations, which is 100-
percent owned by Northwest, and its charter affiliate airline, 
Champion Airlines, which is owned 40 percent by Northwest. The 
other individual that owns the airline is Carl Poulad, who is a 
major stockholder in Mesaba Airlines. MLT's reservation center 
has also recently introduced their air outlet center to 
introduce drastically discounted fares on Sun Country routes, 
not only to come after us, but another travel company in the 
Twin Cities.
    This combination of Northwest, MLT, and Champion is so 
unique in the industry it does not even show up on the radar 
screens of Federal regulators. Together, MLT and Champion have 
been able to aggressively compete with Sun Country without 
Department of Transportation, Department of Justice, or 
congressional scrutiny. This relationship is an anomaly in the 
industry, but a significant competitive advantage and one that 
this committee should be very focused on for possible antitrust 
    No other major airline in the United States has Northwest's 
ability to dominate a market for both scheduled and charter 
flights. Northwest has used MLT to add low-fare capacity on our 
common routes. They have also utilized MLT and its charter 
airline, Champion, to add frequency on common routes.
    The Minnesota Attorney General asked the DOT to investigate 
their behavior and wrote, ``It is not difficult to conclude 
that the use of this three-front attack by Northwest creates a 
climate of expanded seating, reduced prices, and scheduling 
conflicts designed to push an emerging competitor out of the 
    Northwest has recently announced service on routes that 
they had not flown, which is two flights a day to New York's 
JFK and also two flights a day to San Antonio. These are the 
only new domestic routes announced by Northwest this year in 
their Minneapolis or Detroit hubs.
    In cities where Sun Country has two flights a day, 
Milwaukee and Detroit, Northwest has added two to three times 
the number of discount seats. Clearly, it was not their 
benevolence which provided----
    Senator DeWine. Mr. La Macchia, I have to interrupt you. We 
are now down to 5 minutes in the vote. We only have about 5 
minutes to get there, so we will have to----
    Mr. La Macchia. Very well. I will end at this moment.
    Senator DeWine. We will be back in approximately 15 
minutes. Thank you very much.
    [The subcommittee stood in recess from 3:25 p.m. to 3:44 
    Senator DeWine. Mr. La Macchia, you wanted to finish?
    Mr. La Macchia. I will just finish.
    Senator DeWine. Yes, sir, proceed.
    Mr. La Macchia. In a hearing before this committee on April 
1, entitled ``Airline Hubs: Fair Competition or Predatory 
Pricing,'' then Northwest Senior Vice President of Corporate 
Affairs, Richard Hirst, had testified, ``We sublease gates at 
Detroit and Minneapolis to numerous of our competitors, 
including Southwest Airlines, America West, and new entrants 
such as Vanguard and Frontier. In addition, we provide ground 
handling services at Detroit, such as Spirit and Reno Air, as 
well as maintenance services to our other competitors. Frankly, 
it is in Northwest's best economic interests to do so.''
    If sharing facilities and other services is in Northwest's 
best economic interests and they utilize this as a statement as 
to how anticompetitive behavior in the fortress hubs does not 
exist, then why shortly after his testimony did Northwest 
cancel our agreements for a ground handling office and ticket 
counter space in Boston, preferring to leave the space vacant 
rather than leasing to us? And 1 month later, we received 
notice of the same in Los Angeles.
    In June 1999, 6 days after we began scheduled service, 
Northwest canceled our part sharing and purchase agreement. And 
if it is in their best economic interests to provide 
maintenance service to competitors, why is it that we are not 
allowed to purchase unwanted and excess parts from their 
surplus parts listing which is used by all other airlines, 
which is industry standard in the best interests of this 
industry to provide support for other airlines, if needed?
    In order for competition to work, it must be fair. The 
charts that I have here show that major airlines operate 
differently when they are competing against another major 
airline, versus Southwest Airlines, and a new entrant. The 
strategy of a large, high-cost, mega carrier is clear. They 
will sacrifice short-term profitability with opportunity costs 
in order to reestablish monopoly power. In the end, the 
consumer is going to lose and pay higher fares.
    Again, as part of their suit against American, John 
Dasburg, CEO of Northwest Airlines, said, ``In the long run, 
predatory pricing will reduce the number of airlines, 
ultimately cutting the number of flights and choices available, 
particularly in smaller markets. This will leave the few 
surviving airlines free to price just as high as they want to 
for just as long as they want.'' We thank him for making our 
point so well.
    Over the last decade, major airlines have created a 
reputation of predation that, left unchecked, will end the 
emergence of low-fare carriers in large hub markets, and send a 
message to the community that if Southwest Airlines isn't 
there, you don't have competition in a low-fare category.
    In conclusion, our mission today was to inform you of our 
situation, as it is unique. What you choose to do with this 
information is entirely up to you. We have chosen to compete 
for the customer and will do so and continue to do so in a fair 
and honorable manner.
    Thank you.
    [The prepared statement of Mr. La Macchia follows:]

               Prepared Statement of Bill La Macchia, Jr.

    Thank you, Chairman DeWine, ranking member Senator Kohl, 
distinguished members of this subcommittee, for your attention to the 
issue of airline competition and the anti-trust concerns associated 
with the market dominance of mega airlines.
    Let me begin by thanking Alfred Kahn, the father of deregulation, 
for his testimony today. Now is the time to take his efforts to the 
next level. To truly promote competition, more must be done to level 
the playing field.
    Let me emphasize: we are not in favor of re-regulation. We are in 
favor of being given the opportunity to compete in a fair and open 
marketplace and provide choices for the traveling public. We are 
against predatory behavior designed to protect monopolies and cartels.
    The major airlines will argue that the government should not play a 
role in promoting competition and that, left alone, competition will 
flourish. Why is it then that the majors continue to come before 
Congress and the Department of Transportation (DOT) and beg for 
government intervention for open skies agreements and access to 
international airports? And further, why do they request antitrust 
exemptions for their alliances?
    Clearly, the major airlines want to promote a double standard. They 
want government assistance when it benefits them internationally but 
cry foul when new entrants and low cost carriers ask for the same 
considerations to promote domestic competition.
    For this hearing, let me also debunk conventional wisdom and 
contestability theory that predation is ``implausible'' and therefore, 
does not occur. The argument that companies rarely engage in predatory 
conduct because of the prohibitive upfront costs and the notion that 
the attempt by the predator to ``recoup'' the financial losses will not 
be successful is proven incorrect in several instances in this 
    Further, the argument that the predators would not engage in this 
behavior because a stream of new entrants would come after the previous 
one driven from the market is also incorrect, as airlines establish a 
dominance in their hubs and a reputation for predation that deters new 
entrants from coming in and competing.
    For our testimony today, we will argue that promoting domestic 
competition is necessary, predation does occur, and how Northwest 
Airlines (the fourth largest airline, but arguable the most predatory 
and anticompetitive of the majors) is employing a variety of tactics 
that are questionable under the Sherman Antitrust Act and threaten to 
drive us out of the market.


    According to 3rd quarter 1999 DOT figures, Northwest alone control 
62 percent of the market share in Minneapolis/St. Paul (MSP) compared 
to Sun Country 8 percent. With it's alliance partners, Continental, 
Mesaba America West, Northwest's combined market dominance exceeds 70 
percent. That doesn't even take into account its charter subsidiary, 
Champion, which is not required to report to the DOT.
    With this level of domination, why is it that Northwest continues 
to aggressively attack Sun Country via fare actions, capacity increases 
and control of facilities?
    Again, competition is good--but it is the ``intent'' of the 
carrier's aggressive action which must be called into question. We 
believe it is Northwest's intent to drive us from the market and 
achieve an even greater level of monopolization.
    History shows that Northwest's strategy of predation has worked 
before, and left unchecked, will probably work again.


    Northwest's predatory conduct against Sun Country replicates 
predatory conduct by Northwest that drove a low cost competitor, Reno 
Air, from the MSP market in 1993.
    In April 1991, Northwest canceled service between MSP and Reno, 
Nevada, because that route was not sufficiently profitable.
    In February 1993, seeing a niche that was not being served, Reno 
Air announced that it would begin three daily non-stop trips between 
Reno and MSP.
NWA's new Reno service
    Northwest retaliated and announced it would also begin three daily 
MSP/Reno non-stop flights. In addition, Northwest said it would begin 
daily roundtrips from Reno to Reno Air's destination cities of Los 
Angeles, Seattle and San Diego.
NWA adds flights, perks for Reno
    To further squeeze the Reno market, Northwest then announced on May 
1, 1993, it would begin a second daily flight from Reno to both Los 
Angeles and Seattle. In addition, Northwest announced special ``World 
Perks'' (i.e. frequent flyer) bonus miles for Reno residents in an 
effort to control that market.
NWA slashes fare, adds capacity
    to further secure their dominance, Northwest matched Reno Air's low 
fares on the Reno/MSP route and also matched or undercut their fares on 
their other common routes. In addition, Northwest offered more seats 
than Reno Air and provided additional seats at these low prices.
    This predatory combination of reducing price and adding capacity 
forced Reno Air to abandon the market.
Predation returns NWA to profits
    In June 1993, after Reno Air's withdrawal from the market, 
Northwest's lowest fare increased from $86.36 to $135.46 to $149.09. 
Its lowest refundable fare increased from $136.36 to $454.55. Today, a 
seven-day advance fare from MSP to Reno is $1,026.
    Reno Air did sue Northwest for its predatory practices in 1997. 
That lawsuit was dropped when Reno Air was bought by American Airlines.
    By driving Reno Air out of MSP and then raising its fares, 
Northwest was able to recoup the investment it made in below-cost 
pricing. Northwest's predation and intent to dominate the Reno routes 
worked, disproving again conventional wisdom and contestability 
theories on predation.

                           ENTER SUN COUNTRY

    Flash forward now five years to September 1998, the Northwest 
pilots go on strike and the MSP market is held hostage without 
sufficient choices for air transportation.
    Studies completed by the U.S. Department of Transportation and 
State of Minnesota Planning Commission, showed that Minnesotans were 
paying higher than average fares compared to other cities for 
comparable distances--costing them an additional $500 million per year 
due to a lack of competition.
    This graph and the other airfare comparison charts I will be 
showing you today were created by Dr. Paul Stephen Dempsey, a renowned 
expert on airline competition and the Director of the Transportation 
Law program at the University of Denver. As you can clearly see, 
Minneapolis/St. Paul has historically the highest airfares compared to 
other hub cities.
    Sun Country saw an opportunity to provide an affordable choice for 
air travel and announced it would begin scheduled service on June 1, 


    As with Reno, Northwest responded vigorously to Sun Country's 
announcement and promptly slashed fares. Compare the following, seven-
day advance purchase fares on flights from MSP in the summer of 1998, 
before Sun Country began scheduled service to summer of 1999, when Sun 
Country inaugurated scheduled service.

                                                    1998         1999
Northwest fares to:
    Boston....................................         $814         $298
    New York..................................          750         $298
    Washington, DC............................          675         $298
    Seattle...................................          628          318
    Detroit...................................          634          218
    Milwaukee.................................          427          128

    In addition to fare matches, Northwest has added capacity on routes 
flown by Sun Country, including both additional flights and larger 
aircraft. For example:

                                  August 1998
                                  (per week)     August 1999  (per week)
Northwest flights to:
    Anchorage................  3 planes/570      5 planes/950 seats.
    Phoenix..................  5 planes/750      6 planes/940 seats.

    The public has benefited since Sun Country entered the market. 
Consumers are expected to save an average of $120 million in the first 
year of our scheduled service.

                         NWA'S DOUBLE STANDARD

    Now, you may ask, what is fair competition? What a difference a few 
years makes. In their 1992 lawsuit against American, Northwest 
contended that this type of pricing behavior was unfair and even 
illegal, which points out another glaring double standard by Northwest.
    In 1992, after sustaining enormous losses from an extended price 
war with American Airlines, Northwest filed a predatory pricing lawsuit 
contending that American had dropped fares to drive them out of 
    Northwest said that American was ``offering discounts for a far 
greater number of passengers and incurring substantial revenue losses 
to itself.'' Northwest also alleged that American engaged in ``illegal, 
anticompetitive and monopolistic activities'' which were ``intended to 
further its goal of eliminating competition.''
    Northwest Chairman Gary Wilson also implied that American Airlines 
was trying to ground Northwest with below-cost pricing. Referring to 
American's CEO Bob Crandall, Wilson said, ``It's not fair . . . It's 
time the bully in the schoolyard got punched.''
    After their unsuccessful lawsuit, a new and even more forceful 
bully came into the schoolyard . . . Northwest Airlines.


    While Northwest may have been unsuccessful in suing American, in 
current there does exist remedy for this anticompetitive behavior.
    The Sherman Act outlaws all contracts, combinations, and 
conspiracies that unreasonably restrain interstate trade. This includes 
agreements among competitors to fix prices, rig bids and allocate 
customers. The Sherman Act also makes it a crime to monopolize any part 
of interstate commerce.
    Under the Sherman Act, an unlawful monopoly exists when only one 
firm provides a product or service, and it has become the only supplier 
not because its product or service is superior to others, but by 
suppressing competition with anticompetitive conduct.
    Joel Klein, Assistant Attorney General for the U.S. Department of 
Justice's (DOJ) antitrust division appeared before the Senate Judiciary 
Committee on March 22, 2000.
    Klein said that, under the Sherman Act, DOJ had identified 
predatory pricing and monopolization practices by American Airlines.
    On March 22, 2000, Klein testified:
          [First let me say a few words about our pending case against 
        American Airlines under section 2 of the Sherman Act for 
        monopolizing airline passenger service on routes emanating from 
        its hub at Dallas/Ft. Worth International Airport. As the 
        complaint we filed sets forth in detail, American repeatedly 
        sought to drive small, start-up airlines out of DFW by 
        saturating their routes with additional flights and cut-rate 
        fares. After it succeeded in driving out the new entrant, 
        American would re-establish high fares and reduce service. 
        Passenger traffic surged when the low-cost airline began 
        operations and more people could afford to fly, and then fell 
        back dramatically after American had driven out the upstart and 
        resumed monopoly pricing. American knew this strategy was a 
        money-loser in the short term, but expected to make that up by 
        preserving its ability to set fares at monopoly levels.
          American, like anyone else in our capitalist economy, is free 
        to compete, and compete aggressively. But it crossed a 
        fundamental line into predation. This is the first predation 
        case brought against an airline by the Antitrust Division since 
        the industry was deregulated in 1979. I think it will be 
        tremendously important for our traveling public throughout the 
        country, who deserve the lower fares and expanded choices 
        available in a competitive airline marketplace.]
    As with the recent government break-up of AT&T and the proposed 
break-up of Microsoft, the federal government has the authority and 
responsibility to break up other monopolies. The major airlines, each 
monopoly in their fortress hubs but collectively a giant cartel, may be 
the next target for such action.
    Examine how Northwest uses a wholly-owned tour operator, charter 
airline affiliate and discount ``Air Outlet Center'' to create a mini-
monopoly and control the Minneapolis/St. Paul market.


    MLT Vacations (100 percent NWA owned); Champion Airlines (40 
percent NWA owned); and Air Outlet Center (a division of MLT's 
Reservation Center).
    In addition to its own fleet of 428 aircraft, Northwest is also 
using its tour operator MLT Vacations (100 percent owned by Northwest) 
and its charter-affiliate airline, Champion Airlines (40 percent owned 
by Northwest) to go after Sun Country. MLT's reservation center has 
also recently introduced their ``Air Outlet Center'' to drastically 
discount fares on Sun Country routes.
    Let me first explain: the combination of Northwest, MLT and 
Champion is so unique in the industry that it does not even show up on 
the radar screen of federal regulators. Together, MLT and Champion have 
been able to aggressively compete with Sun Country, without DOT, DOJ or 
Congressional scrutiny.
    This relationship is an anomaly in the industry but a significant 
competitive advantage and one that this committee should be most 
interested in for possible Sherman antitrust implications.
    No other major airline in the United States has Northwest's ability 
to dominate a market for both scheduled and charter flights.
    Northwest has used MLT to add low-fare capacity on Sun Country 
common routes. Compare their service before and after we began 
scheduled service.

                                  August 1998          August 1999
Northwest/MLT to:
    Las Vegas................  680 seats.......  920 seats.
    Los Angeles..............  1,650 seats.....  2,170 seats.
    Orlando..................  560 seats.......  1,030 seats.

    Northwest has used MLT and it's charter airline Champion to add 
frequency on common routes with Sun Country. Compare before and after 
we announced scheduled service.

                                  Summer 1998          Summer 1999
Northwest's MLT/Champion to:
    MSP/Las Vegas............  2x/week since     Daily.
    MSP/Orlando..............  2x/week since     Daily.

    What is surprising is that many of these increases are on routes 
that Northwest was already experiencing its lowest operating profits. 
MLT's own employees have questioned why Northwest is asking them to do 
    History has shown, as with Reno Air, that Northwest is willing to 
suffer slim margins and even losses in the short-term to drive a 
competitor from the market and recoup profits later by restoring the 
routes to higher fares.
    Left unchecked, this predatory behavior will again drive 
competition from the MSP market. You'll recall from an earlier chart 
that the cost of air travel in MSP is among the highest for consumers. 
Why? Because of the dominance and control of Northwest Airlines.
    The Minnesota Attorney General has asked the DOT to investigate 
Northwest's behavior and wrote, ``It is not difficult to conclude that 
the use of a three-front attack by Northwest (through Champion, MLT and 
its own carriers) creates a climate of expanded seating, reduced 
prices, and scheduling conflicts designed to push an emerging 
competitor out of this marketplace.''
                     new nwa routes vs. sun country
    Northwest has recently employed a new, more aggressive strategy of 
going after Sun Country on routes they were not serving and Sun Country 
had a niche. In March, Northwest announced new twice daily nonstop 
service to New York-JFK and new nonstop service to San Antonio.
    We have to question why--after all the years of careful market 
analysis--would Northwest suddenly decide to begin new service to those 
routes. Again, it is important to question their ``intent.''
    Did Northwest see a market opportunity because Sun Country had 
expanded the market on these routes? Or, do they want to establish 
control of the route, drive Sun Country away, and then raise fares when 
competition no longer exists? As you'll recall, a similar thing 
happened when Northwest went after Reno Air's other destination cities.


    Northwest has also acted very aggressively in key markets where Sun 
Country has frequency.
    In the markets where Sun Country has two flights per day, Milwaukee 
and Detroit, Northwest has added 2.5 to 3 times the number of discount 
seats that Sun Country has. Northwest has also added 2.5 to 3 times the 
number of discount seats that Sun Country has to Boston, where it 
previously had no other competition.
    This aggressive, predatory behavior is of grave concern to us.
    As every airline knows, the best assurance of profitability is to 
add frequency to your routes and attract more frequent or business 
travelers. If Northwest acts in this kind of predatory manner for every 
route that Sun Country has more than one flight per day, Sun Country 
may not be able to build a profitable hub.
    sherman act: suppressing competition by anticompetitive conduct
    Beyond pricing, the Sherman Act also says that an unlawful monopoly 
exists when one supplier is able to suppress competition with 
anticompetitive conduct. While the mega carriers will say they do not 
engage in anticompetitive behavior in their fortress hubs, this is 
another example of saying one thing and doing another.
    In a hearing before this committee on April 1, 1998, entitled 
``Airline Hubs: Fair Competition or Predatory Pricing?'' Northwest's 
Senior Vice President of Corporate Affairs, Richard B. Hirst, 
          [On a related point, unfounded claims have been made that 
        major network carriers engage in anticompetitive practices to 
        preserve their dominant position at hub airports. These charges 
        are wholly without merit. Detroit, for instance, is a facility 
        constrained airport and all airlines are similarly constrained 
        in their growth, most significantly Northwest. Nonetheless, we 
        sublease gates at Detroit and Minneapolis to numerous of our 
        competitors, including Southwest Airlines and America West and 
        new entrants such as Vanguard and Frontier. (Northwest Deck, 
        page 62) In addition, we provide ground handling services to 
        competitors at Detroit such as Spirit Airlines and Reno Air, as 
        well as maintenance services to other competitors. (Northwest 
        Deck, page 62) Frankly, it is in Northwest's best economic 
        interest to do so.]
    If sharing gates, facilities and other services is in Northwest's 
best economic interest, why then, shortly after Mr. Hirst's testimony, 
did Northwest do the following?
    In October 1998, Northwest canceled our agreements for 
groundhandling, office and ticket counter space in Boston, preferring 
to leave the space vacant rather than lease to Sun Country. One month 
later, they did the same in Los Angeles.
    In June 1999, six days after we began scheduled service, Northwest 
canceled our part sharing agreement and posted a large sign in Detroit 
saying ``no parts to Sun Country.''
    If it is Northwest's best economic interest to provide maintenance 
services to competitors, why is it that Northwest even refuses to sell 
Sun Country its unwanted and excess parts from their surplus parts 
listing service, which is used by all other airlines?
    With regard to gates, Sun Country has repeatedly asked Northwest to 
sublease us gates at the Main passenger terminal. Repeatedly, they 
ignored or refused our request.


    Let us reiterate: competition is a good thing. But in order for 
competition to work, it must be fair. Our concern, and the concern of 
other new entrants and low-cost carriers is the severity of competing 
methods employed by mega carriers against low cost carriers.
    Compare the fare histories of the following charts and see the 
differing degrees of how a major competes with a major; major competes 
with Southwest; and a major competes with a new entrant.


    The strategy of the large high-cost mega carriers is clear. They 
will sacrifice short-term profitability in order to re-establish 
monopoly power in the market place. In the end, the consumer . . . your 
constituents . . . lose and pay higher fares.
    Again, as part of their suit against American, John Dasburg, CEO of 
Northwest Airlines said, ``In the long run, predatory pricing will 
reduce the number of airlines, ultimately cutting the number of flights 
and choices available, particularly in smaller markets. This will leave 
the few surviving airlines free to price just as high as they want for 
just as long as they want.''
    We thank him for making our point so well.
    While the mega carriers can shift their vast resources to cover 
routes where they are being extra-competitive and operating at or below 
costs, the new entrant cannot. We need prompt action by the DOT and DOJ 
to take action against the predatory behaviors I've outlined today.
    Beyond that, if new entrants and low-cost carriers are to survive 
we need:
    Fair and Equal Access to Airport Facilities. The major carrier in 
the market, who dominates that hub, should not be allowed to dictate 
policy and bully the airport commissions and local governing bodies 
into submission--thereby, squelching competition. New entrants, who are 
able to bring value to the community should have access to gates and 
    Fair and Equal Access to the Most Profitable Routes. Particularly, 
we need open access to slot-controlled airports, where the major 
airlines have a lock on the airports and refuse to allow new 
competition in. This is an areas where Congress has provided some 
relief through the FAA Reauthorization bill, but more must be done to 
open up these markets.
    We are not asking for special treatment, we are only asking you for 
the same things that the major airlines ask you for in opening up 
international skies and airports: for fair and open access. When you 
are considering their requests, we only ask that you hold them to the 
same standard to promote domestic competition.
    Thank you.

    Senator DeWine. Mr. La Macchia, thank you very much. Mr. 
Ferguson has stated that he expects a competitor to react if 
somebody invades his hub, and therefore will not enter a hub 
unless he has the financial resources to handle that reaction. 
That was at least a summary of what he had to say. Is that the 
right way to approach a competitor's hub, in your opinion?
    Mr. La Macchia. Well, we were already there. We have been 
based in Minneapolis since our beginning, and it is just as 
much, we feel, our hub and our operation as it is anyone 
    Senator DeWine. How about a general question, though? My 
question was general.
    Mr. La Macchia. We look at the opportunity and our balance 
of our marketing approach is that there was an opportunity to 
utilize our aircraft. And there were individuals who did not 
have the ability to fly, and we recognized that and we feel we 
are providing that benefit to customers and we are providing 
individuals a choice and we are ensuring that there is 
competition. Ultimately, at the end of the day it is up to the 
customer to make that choice, but we have a very good product.
    Senator DeWine. Mr. Carty, in your testimony you note that 
despite the complaints about hub service, cities seem to want 
to host airline hubs in their airports. However, based on some 
press reports at least, a few mid-size cities such as Kansas 
City, Jacksonville, and Indianapolis appear to think they are 
better off maybe without hubs because of the broad range of 
competition they have been able to attract to their airports.
    Is this type of reaction common, and what do you think is 
its significance?
    Mr. Carty. Well, I think it is less than common. I have 
been approached by at least two of those three cities in the 
last 10 years urging exactly the opposite. So I guess my 
instinct is to question the sincerity of it. The fact of the 
matter is cities that are hubs get a lot more non-stop flights 
to more destinations than any other city of comparable size.
    Senator DeWine. There is, as you have already pointed out 
in your testimony, quite a tradeoff, though. I mean, there is a 
tradeoff. That is the good news.
    Mr. Carty. Well, if you are a spoke, you get all the 
advantages of being a spoke.
    Senator DeWine. I understand.
    Mr. Carty. But as I said in my testimony, every hub is also 
a spoke, so every hub is the winner of deregulation. They get 
to be a spoke to every other hub, so they have got that same 
competition for one-stop service everywhere in the world. In 
addition to that, they have the premium product of non-stop 
service to almost everywhere in the world with high frequency. 
So they are the true winners.
    There are very few people and very few cities that I am 
aware of that wouldn't prefer their cities to be hubs. The 
reason the hub cities have done so well in terms of economic 
development is they are a magnet for business and business 
    Senator DeWine. Mr. Carty, I do not question what you are 
saying, but I can take you to some cities and show you a lot of 
consumers who would vehemently disagree with what you are 
saying. And I am not going to get into specifics today, but we 
could cite some hubs and we could give you some examples on 
pricing, and I think you know what I mean. So I don't think it 
is quite as clear-cut as you have outlined.
    I understand what you are saying, and I think most cities 
by and large historically have said, sure, they would like to 
be a hub. I also think that once you get beyond some of the 
business leadership in the community, you will find other 
consumers who will say, my Lord, why am I paying so much to fly 
there? And when they look into it, they find out why they are 
paying that much to fly there because there isn't any 
    Mr. Carty. Well, you know, again I would say to you that 
the evidence is not at all clear to me. I know the average 
consumer in Dallas/Ft. Worth has the availability of these same 
highly discounted seats that Dr. Kahn referred to on more 
flights to more places than any other community in the world.
    He also has a full-fare ticket that is, as Dr. Kahn 
represented, more fully priced. The very limited number of 
people that are paying full-fare ticket--and I think Dr. Kahn 
cited a number of 7 percent--are paying very much what they 
paid prior to deregulation. But the average fare in all markets 
across the United States is down literally almost 40 percent.
    Now, would consumers like more service and even lower 
fares? Of course, they would. That is true in almost every 
product in the United States today. But the transparency of 
pricing in our business for the last 20 years has been like no 
other business in the world. The rest of the businesses in the 
world are starting to see it with Internet, but we have 
essentially had the transparency of fare information in our 
business for 20 years that most other businesses are beginning 
to see.
    Senator DeWine. Mr. Carty, I don't question what you are 
saying. My only point is a very simple point, and I think you 
are candidly maybe overreacting to what I am saying. I want to 
make sure you understand what I am saying. All I am saying is 
that there are pros and cons to being a hub. That is all. There 
is good and bad, and as you pointed out, most people think that 
the good outweighs the bad. But we can take you to some 
communities where the pricing structure is pretty rough if you 
live in a hub city.
    American has recently announced that it will be a part of a 
joint venture with Continental, Northwest, United, and Delta to 
create an Internet reservation site called T2. This joint 
venture purportedly will include a large number of other 
carriers, and has raised some concerns among competing 
reservation services.
    There are contradictory reports about how exactly this is 
going to work, so I would like maybe if you could take a moment 
to briefly explain what T2 will do. Specifically, will it be an 
exclusive system that does not allow the participants to post 
their fare information on other reservation services?
    Mr. Carty. T2 is a business concept that involves, as you 
say, providing an Internet access capability to as much of the 
industry's fare and schedule information as we can possibly 
attract to the site. It was originally started by the other 
carriers. We were recently invited to become an equity holder 
in that company and accepted that invitation. We had not been 
invited before because we were a very large holder in a 
competing reservation system, Travelocity, that is owned by 
    I think what you are seeing with the advent of theInternet 
is airlines and other travel providers trying to put their product in 
every conceivable Internet shelf that is developed, whether it is 
Microsoft's Expedia, whether it is Travelocity, whether it is their own 
airline sites, or whether it is this combined site or the hundreds of 
others, the priceline.coms, and so on.
    It is envisaged by this particular site that some offerings 
will be made on this site that won't be made on other sites, at 
least by the equity owners of the airlines. That is not 
necessarily true of other airlines. It is sort of up to them, 
just as it is also true today that we offer and other airlines 
offer on their own sites some offerings that aren't offered on 
the broader travel agency sites.
    I think the reason for this development, Senator, is the 
concern by the airlines and other travel providers that a very 
small number of so-called electronic travel agents, Travelocity 
and Microsoft's Expedia in particular, were in danger of 
completely dominating this space, to the detriment of the 
travel providers themselves. So I think this is one of the 
strategies that the airlines have used in response to that.
    Senator DeWine. Mr. Ferguson, in your testimony you seem 
willing to rely upon the Department of Transportation to put 
pressure on incumbent carriers to basically just behave 
themselves. Some would argue that the Department does that now 
without much success. Let me just ask you if you agree with 
that, and if so, what else should the Department of 
Transportation be doing?
    Mr. Ferguson. The reason I find that the proper venue is 
because I had a little education, to the tune of $12 million 
and David Boyce's representation--and he has been representing 
the Government recently--on sort of what the antitrust laws are 
in the United States. And I don't believe the competition 
offered by Mr. Carty, or frankly the other major airlines, 
generally fits in the category of predatory. I do think there 
are instances in which behavior appears predatory, and 
certainly looks that way.
    I do think from time to time the Department has stepped in. 
I think there are some clear examples of that. I think they 
have done that on our behalf. I think the efforts in rules that 
were passed some years ago were an attempt. In all honesty, I 
am not sure that we have a position as a public policy matter 
about where we want to get to that lets the Department, whether 
it be Justice or Transportation, take a real position.
    I mean, it is not that fares in the industry are too high. 
They are not. If they were too high, we would all make money, 
and we don't; we make a little bit. I think the question that 
needs to be answered is the disparity, the widening that Mr. 
Carty has described. Is that unfair? And if it is, then we need 
a policy that espouses some way to make that close.
    But I don't think the rules that were authored in the 
1930's, I guess it was, are going to address that problem in 
our business. I just don't think that is the place to look, and 
so I think you have to look to the Department. I think they 
have tried to do a good job. I don't think they have always 
been perfect, but they have tried.
    Senator DeWine. Senator Kohl.
    Senator Kohl. Mr. La Macchia, in that route, Minneapolis to 
Milwaukee, what are the two or three most egregious things that 
they have done to hurt you?
    Mr. La Macchia. Well, one issue is because of the fact that 
we are in the same area for gates. We have asked the airport to 
step up and get involved because they were literally blocking 
the area for our aircraft to come in. We had shared the bag 
room and there were contentious relationships with their 
baggage handlers and the group that we had utilized.
    Clearly, they have opened the inventory and the bucket of 
lower priced seats in that route that were never there before. 
It used to cost $600, as it says there, in order to continue to 
provide them with, well, you can get the same price by flying 
on us.
    And, lastly, I would say in that route our job is to take 
care of the customers, and it is interesting to note that in 
situations where the other airline may have canceled a flight 
or were delayed or what have you, most airlines have agreements 
for passenger protection. There have been days when they 
would--in fact, they have never walked their customers down to 
us and have said, here is an option. That is their choice, and 
the customer's. But yet it goes to another standpoint when they 
tell a customer, no, there are no other flights, Sun Country's 
flight has already left, when, in fact, it hasn't. So it is 
really up to the customer's issue.
    Senator Kohl. These are the most egregious things they have 
    Mr. La Macchia. Well, it is like the bully in a schoolyard. 
I can go on and on. There are issues where when we have to move 
a part on an aircraft, it mistakenly or seemingly gets lost.
    Senator Kohl. Let me just stop there. What would you have 
the Government do about these things?
    Mr. La Macchia. Well, it is not just that route, but there 
are issues in other routes; for example, the squeezing of 
travel agents to apply pressure in order to ensure that they 
are not losing market share and forcing the agents to operate 
at a certain increased level of market share, which is a 
distribution arm.
    From our perspective, we have solutions. We are not coming 
here saying we need you to protect us. We are saying we have 
these facts of how difficult it is to compete in some of these 
markets. Some of the solutions that we have put into place--I 
agree with Alfred Kahn's issue of ensuring that the other 
airline stays in the market with the prices and the inventory 
levels for a few number of years.
    I also believe that we should put the onus on the other 
airlines to explain and prove that their actions did not remove 
the new entrant from a marketplace. Everybody looks at us 
saying prove it. Well, you know, no one has put the onus on the 
other airlines and said, all right, be accountable for these 
    We talk about limiting the impact and the squeezing of the 
travel agents. It is also the issue of other assets and 
resources that are available, and I think it is important that 
we review the relationships and partnerships of the airlines, 
not only with the technology arm, but also now performing a 
relationship with purchasing and buying of parts and sharing of 
that. We will be applying to have entry into T2. We will see if 
we are denied.
    We also believe that a solution is to hold airports 
accountable and make them show how they have spent money, and 
does it benefit the community or does it benefit a certain 
airport. And, lastly, maybe we need to come up witha better 
term than ``predatory.'' I think that is a term that everybody is so 
hung up on. We have talked about, well, you know it when you see it, 
but from our perspective it is about the people.
    My father and I entered into the Minneapolis market because 
we had a belief in a strategy. Can we move our assets 
elsewhere? Yes, we can, but we believe----
    Senator Kohl. How long have you been in that market?
    Mr. La Macchia. Milwaukee-Minneapolis we initiated a year 
    Senator Kohl. How many flights do you have a week?
    Mr. La Macchia. Well, we have two flights a day. Last fall, 
we initiated connecting service from Milwaukee to Minneapolis 
which would then connect to Seattle, San Francisco, and Los 
    Senator Kohl. You have been doing it for how long, a year?
    Mr. La Macchia. A year, and we are continuing to see our 
    Senator Kohl. But you are continuing those flights from 
Milwaukee to Minneapolis?
    Mr. La Macchia. Pardon me?
    Senator Kohl. Those flights continue to operate twice a 
    Mr. La Macchia. Yes, they do, and we recognize that that 
route, Minneapolis to Milwaukee, would not be successful down 
the road if we do not ensure that there is connecting traffic 
to broaden that base of business. We do the same out of 
    My father and I continue to invest in the organization. We 
are not profitable. We have a strategy in place that we think 
we can be profitable. The scheduled service of our business is 
not the only part of our business. We still operate on behalf 
of the tour operators which allows that balance.
    Senator Kohl. Mr. Carty, you have been listening to a 
little guy talk about his business and some of the problems he 
has competing with some of the big guys. What would you say to 
Mr. La Macchia?
    Mr. Carty. Well, Senator, listening to both Mr. La Macchia 
and Mr. Ferguson, and the previous testimony, I guess the 
question is where are the impediments to competition and how 
can we remove them, on the one hand. I think the gate issue is 
a very interesting issue.
    I am not experienced in most of my route network in a 
shortage of gates, but I have seen reports in markets that are 
not as much interesting to me where there are gate shortages. 
The one market where I am experiencing gate shortages is Los 
Angeles. You can't get gates in Los Angeles. I think the 
financing of gates which the expanded PFC's will allow us to do 
should begin to alleviate that issue.
    I might add that the FAA already has power to force a local 
airport to take underutilized gates and allocate them to 
carriers that want them, as opposed to those that aren't using 
them properly. That power exists and that should happen. And, 
in fact, if that process is taking too long--and it may take 
too long; there are very few examples of it being tested--then 
it needs to be accelerated.
    I am a great believer in getting rid of those impediments. 
I think we ought to get rid of those impediments. I think we 
have made some real progress on the slots. We are obviously not 
finished. We have still got slots left in the country, but we 
have made some progress. I think the air traffic control issues 
that Dr. Kahn referred to are critical. In fact, the removal of 
slots is going to aggravate them and the air traffic control 
problem in the short term. We need to fix that.
    But in terms of the antitrust laws themselves, I think we 
really do need to be very careful with them. I don't disagree 
with the conclusion that laws that were written in the 1930's 
for steel companies may or may not be appropriate to today's 
marketplace, but I don't think that is a unique phenomenon to 
the airline business.
    When there is a price war on the corner of a street where 
there are two gas stations, does the guy that matched, if the 
other guy goes out of business, have to keep his gas price at 
$.90 for 2 years afterwards? The answer is no. When MCI 
undercuts AT&T in the long-distance market and AT&T matches 
them, when AT&T finds that their lines are ringing busy because 
they don't have enough capacity and adds capacity, isn't that 
really very much a parallel to what we are talking about here 
in the airline business?
    So I think there is a valid question of whether it is time 
we revisit as a country our antitrust laws. I think we ought to 
be very careful of treating the airlines uniquely. This is a 
business like every other business; in fact, as Bob Ferguson 
pointed out, substantially less profitable than most other 
business. Our price earning multiple in the airline business is 
in sort of the single-digit range for most of us.
    And this wonderful public beneficiary that we refer to as 
Southwest Airlines is the only guy that has got a 20 multiple 
and, in fact, is returning more to his shareholders than any of 
us. So, you know, he is also a beneficiary of his shareholders. 
I just think we need to be very careful as we massage these 
antitrust laws that we don't invent solutions for airlines that 
are sort of quick-fix answers without thinking through the 
implications for our total economy.
    Senator Kohl. OK.
    Mr. Carty. But I would support revisitation of those 
antitrust laws.
    Senator Kohl. Mr. Ferguson, do you have something to say to 
Mr. La Macchia?
    Mr. Ferguson. I guess the only thing I would have to say to 
him is I wish him extremely good luck, and if he is going to 
make the service survive, he is going to have to do it premised 
on connecting passengers. I don't believe you can win a point-
to-point war with a major air carrier in a straight-out fight.
    I don't know how wealthy Mr. La Macchia and his family are, 
but the carrier they are fighting is probably worth $5 billion, 
$10 billion, I don't know. If they apply that capital, he 
cannot win. So, you know, he is going to have to do it by 
carrying people connecting through that network, but that is a 
business recommendation. I am not sure I see sort of how else 
you win that fight.
    Senator Kohl. And neither one of you, Mr. Carty or Mr. 
Ferguson, have any quarrel with one strategy that Northwest 
employs, which is to price that flight between those two cities 
really low? I mean, you don't have a quarrel with that in terms 
of a business practice that is accepted in combatting 
competitors in this country?
    Mr. Carty. Again, I think that is the kind of 
businesspractice you would expect to see in any business. When you have 
got a product that is closer to a commodity than we would like it to 
be, if you don't match price, particularly with the transparency of 
pricing that I referred to a moment ago where everybody knows what 
everybody charges, you are just not going to have any business.
    So if you have got a lot of loyal passengers in a market--
and I know nothing about the Minneapolis-St. Paul to Milwaukee 
market, to be perfectly honest with you--you are either going 
to lose those passengers to price or you are going to match the 
price. It is as simple as that. And if you match the price and 
the price is significantly lower than the price that has been 
in the market, you are going to genuinely generate new demand.
    And if you want to accommodate that demand, if you want to 
accommodate your loyal passenger, you have got to have enough 
capacity so that when he phones up and says, I want to go to 
Milwaukee, you have got a seat for him. So on that pure piece 
of it, I think that is not unique to the airline business. You 
know, the analogy with the communications companies is obvious. 
The analogy to almost every business--whether you are a gas 
station, a car manufacturer, a grocery store, or a 
communications company, I think that strategy would be common.
    Now, the courts have defined a standard of predation, one 
that at least Dr. Kahn is uncomfortable with, and that is if 
you price below your variable cost, maybe we are in the 
situation where the person is clearly engaged in predation. But 
when you start redefining average variable cost to include 
things like opportunity cost, what you are saying to a company 
is you must optimize profits in the short term. Don't worry 
about your customers in the long term, don't worry about your 
business plan in the long term, don't worry about what happens 
in the long term. You have to deploy your assets and price them 
more to maximize profit tomorrow. If you don't, you are 
predator. That is not a standard that is going to hold up in 
very many industries in the United States. And I don't mean to 
suggest anybody here suggested it, but it is a very difficult 
question. Very few companies manage for the short term.
    Senator Kohl. But you would also concede, would you not, 
that there is a public policy question here just in terms of 
that route that if you don't have a competitor like Sun 
Country, again, just business being what it is, and if they are 
the only carrier, Northwest is likely to be charging consumers 
a lot more than they would like to be charged?
    Mr. Carty. That tends to be the nature of business. I would 
    Senator Kohl. So there are other considerations here----
    Mr. Carty. I would agree.
    Senator Kohl [continuing]. That we weigh when we consider 
what you are saying and we consider his situation.
    Mr. Carty. I would agree with that.
    Senator Kohl. Thank you.
    Senator DeWine. Senator Kohl, thank you very much.
    I have a statement from Senator Grassley that I will make a 
part of the record at this point.
    [The prepared statement of Senator Grassley follows:]

Prepared Statement of Hon. Charles E. Grassley, a U.S. Senator From the 
                             State of Iowa

    Good afternoon, Mr. Chairman. I commend you for calling another in 
your series of hearings on the important subject of airline 
competition. You and Senator Kohl have shown leadership in bringing to 
light many of the problems surrounding true airline competition. The 
traveling public owes you a debt of thanks and a vote of confidence for 
your efforts.
    You have assembled two very distinguished panels this afternoon. 
Everyone is familiar with Dr. Alfred Kahn and his pioneering work on 
the deregulation of the airline industry. We all look forward to his 
comments on where we are now, and if this is the actual point that he 
expected the airline industry to be at this time. Similarly, we look 
forward to the comments of his colleague, Dr. Morrison, from 
Northeastern University.
    I am also pleased to join you in welcoming Donald Carty, the 
Chairman, President, and CEO of American Airlines and AMR Corporation. 
Mr. Carty, I would like to personally thank you and your staff for the 
help that you provided me during the debate on AIR-21. This is truly a 
landmark piece of legislation that will hopefully benefit states like 
Iowa which lack a major hub airport. I know that increasing competition 
was our joint goal as we worked together to phase-out the antiquated 
slot-control system at Chicago's O'Hare and New York's LaGuardia and 
Kennedy airports. Your support of the phase-out, with its help for 
turbo-prop and regional jet aircraft, is key to helping several smaller 
communities in Iowa. You have been very sensitive toour needs.
    Welcome also to Robert Ferguson, Chairman, President and CEO of 
Midway Airlines, and to Bill La Macchia, President and CEO of Sun 
Country Airlines. I am aware of your concerns about competition and 
look forward to what you have to say.
    We are currently blessed with the longest peace-time economic 
expansion in the history of our great country. Access to economical, 
reliable air service is key for communities to be able to participate 
equally and fully in this economic boom. Trustworthy air service at 
economical fares is essential if businesses are to enter the national 
and international marketplace. If good service and fares are not 
available at their current business location, some businesses move to 
cities that can provide them. This is unfair to underserved 
    AIR-21 seeks to bring about more airline competition. As a 
conferee, I successfully fought for a phase-out of the out-dated slot-
control system. Why? Because I fear that an abrupt end to the slot 
system would only benefit large hub airports, to the exclusion of 
medium, small and non-hub airports. This would in turn, further skew an 
already skewed competition system. Looking at airline ads in the 
newspaper, large airport to large airport traffic already enjoy many 
favorable schedule and low airfare advantages. But just try to fly out 
of Sioux City or other Iowa regional airports and see how much you have 
to pay and how difficult it is to reach some locations.
    The phase-out of the slot rule favors turbo-prop and regional jet 
aircraft that will serve small and non-hub airports.
    Air-21 also provides much-needed funds for necessary infrastructure 
improvements at all levels of airports. These funds will help build new 
runways, taxiways, aprons, ramps, additional gates and terminals. This 
will help to ease congestion and allow airlines to either begin new 
service or expand existing service to reach more places and increase 
    Also, there are new programs to directly assist small communities. 
One of the most important is a pilot project that allows small 
communities to apply for up to $500,000 in direct financial assistance 
to attract or improve new commercial air service. There is also a 
regional jet purchase loan program that will be closely followed.
    Importantly, Section 155 of AIR-21 found that ``15 large hub 
airports today are each dominated by one air carrier, with each such 
carrier controlling more than 50 percent of the traffic at the hub.'' 
It further states, ``the General Accounting Office has found that such 
levels of concentration lead to higher airfares.'' Section 155 requires 
that these airports submit a written competition plan to the Secretary 
of Transportation before they can increase their passenger facility 
    The competition plan is required to include the following 
information: availability of airport gates and related facilities, 
leasing and sub-leasing arrangements, gate-use requirements, patterns 
of air service, gate-assignment policy, financial constraints, and 
other pertinent data.
    This is a very important provision that neither the airlines nor 
the affected airports should take lightly.
    I have not talked about AIR-21 to say that the Congress has done 
its job with regard to airline competition and it is time to move on to 
other issues. To the contrary, we still have a job to do. We have made 
a good first step. That is why I comment you, Mr. Chairman, for holding 
this hearing. We must continue to send a message to the airline 
industry that there is still work to do to bring about increased 
competition and that we are watching. The traveling public expects no 
less. It will take time for some of the provisions of AIR-21 to fully 
mature and have their effects felt and understood. But in the interim, 
we must not relax our vigilance on airline competition. Oversight is 
the name of the game.

    Senator DeWine. Let me thank our witnesses from this panel 
and the previous panel for their testimony today. I think this 
hearing was very helpful in bringing us up to date on a wide 
variety of competition issues affecting the aviation industry.
    As I mentioned earlier, the aviation industry is a very 
complex and difficult industry to analyze. It is very important 
that we continue to hear from the experts, both those who study 
aviation and the industry and those who work in the industry.
    For our part, this subcommittee will continue to promote 
competition for large and small airlines alike. We will closely 
monitor developments in the next few months, with particular 
focus on the Justice Department litigation against American 
Airlines and any enforcement policy decisions made by the 
Department of Transportation.
    This is an important time for the industry, and it is 
important that we take the right steps to promote competition. 
Today's testimony will help us do that, and I look forward to 
continuing to work with Senator Kohl, the other members of this 
subcommittee, the enforcement agencies, representatives of the 
industry, and the experts to ensure that consumers have the 
full benefits of vigorous competition in this industry.
    I want to thank again this panel and our previous panel, an 
exceptional group of witnesses. Your testimony has been very 
helpful. Thank you very much.
    [Whereupon, at 4:11 p.m., the subcommittee was adjourned.]

                            A P P E N D I X


                 Additional Submissions for the Record


  Prepared Statement of Edward P. Faberman, on Behalf of Air Carrier 
                         Association of America

    Dear Chairman DeWine and Senator Kohl: On behalf of travelers and 
communities from throughout the country, we thank you for again holding 
a hearing to review airline competition. As we move into the new 
millennium, 20 years since deregulation, we face a system in which:
     hub concentration is increasing (In some markets, the 
largest hub carrier has 85 to 90 percent market share. This is unheard 
of in any other industry.);
     there are fewer air carriers than at any time since 
     consolidation continues;
     larger carriers continue to expand their international 
alliances and partnerships providing them with additional resources;
     more new entrants have stopped operations or filed for 
bankruptcy than have started service;
     barriers to entry still exist; and
     anti-competitive behavior continues.
    We have just passed the second anniversary since the Department 
issued draft anti-competitive guidelines. Although some carriers act as 
if there are no limits on actions they can take to attack new entrant 
competitors (they don't take similar actions in response to large 
carriers or even Southwest), the guidelines have not yet been 
    When Secretary Slater announced his intention to issue guidelines 
he stated: ``Our responsibility at the Department of Transportation is 
to ensure that every airline--large or small, new or established--has 
the opportunity compete freely. That is what deregulation is supposed 
to be all about--a fair chance to compete.''
    When the Department issued the ``Proposed Guidelines on Unfair 
Competitive Practices in the Airline Industry,'' the Secretary stated:
          The purpose of deregulation was to make the airline industry 
        competitive and make air travel affordable. But competition 
        only works if it exists.
          There is growing concern that major carriers are willing to 
        lose money--lots of it--in the short run to drive off 
          This policy is not intended to ensure the success of any 
        start-up carrier, but rather to ensure a level playing field. 
        Consumers deserve a pro-competitive standard that helps ensure 
        affordable airfares and accessible service. To provide a level 
        playing field, we must preserve vigorous competition and 
        prohibit unfair exclusionary practices meant solely to 
        eliminate that competition.
          Our common goal is to expand the pie, to provide opportunity 
        for all, and prepare the aviation industry for the challenges 
        of the 21st century.
    While some smaller carriers have been able to grow and compete, 
pressures continue. Midway Airlines, one of the carriers represented at 
your hearing, is an example of how one carrier has survived without 
offering low-cost service or competing directly with large carriers. 
After Midway went through bankruptcy and moved to Raleigh Durham where 
it took over American's facilities, it signed a marketing agreement 
with American. It apparently has decided that it will not compete on 
American's routes. It does not operate to Miami or Dallas--markets 
served by American. Even more surprisingly, it does not operate to 
Chicago, where it started. American operates to Chicago, Miami and 
Dallas from Raleigh Durham. Midway has been able to survive in part 
because it has avoided serving some of the most congested hubs and was 
able to serve the critical markets of LaGuardia and National because 
American provided slots to them.\1\ Under deregulation, each carrier 
should be able to serve the markets it elects to enter and at the fares 
it wants to charge. Nevertheless those carriers that elect to take a 
different approach than Midway and service a concentrated large hub 
airport, competing directly with a major carrier, should be able to 
take that approach and not face predatory behavior.
    \1\ Another successful new carrier--Midwest Express--also has 
obtained high density slots. Would Midwest Express still be in 
existence if it didn't obtain access to National and LaGuardia?
    As to the approach that large carriers take to combat competition 
and their views of the competitive environment, I refer you to the 
following comments.
    Former American Airlines Chairman and Chief Executive Officer 
Robert Crandall, speaking at a November 1997 National Press Club 
luncheon, made comments that demonstrate the need for the very action 
he denounced. He stated:
          Unfortunately, the byproducts of our cost control efforts 
        have all too often been long and bitter labor disputes and 
        customers upset by things like smaller seats, fewer closets and 
        reduced food service.
          Losing a small percentage of the people on each plane to a 
        startup will take away the profit of any airline. We want to 
        keep all those passengers. Any airline that sustains losses for 
        the purpose of damaging competitors is not going to stay around 
        very long. That is not to say an airline won't cut fares or 
        lose money for awhile to defend market share at an airport 
        where it cannot afford to lose. When somebody challenges us in 
        a market where we must prevail, we will compete. If that 
        competition costs us money, we are prepared to do it. [Airline 
        Financial News, November 17, 1997, p. 3.]
    The following statement by Gordon Bethune, President and CEO of 
Continental Airlines, best summarizes what large carriers will do to 
force competitors out of markets:
          Last year, because we [Continental] were able to offer better 
        discounts than United for Newark to San Francisco and Newark to 
        Los Angeles, and because we were able to offer those discounts 
        to the people in Boston, United put in a four jet operation, 
        four times a day from Boston to Newark. We said, ``Boston to 
          ``What the heck's United coming in for--we ran USAir out of 
        there some years ago.'' So we put four flights between L.A. and 
        San Francisco. Get that? You do that stuff to us, we do that 
        stuff to you. Now they're [United] down to one flight and I 
        think we'll pull out.
          When you have 20 percent of the market [Continental and 
        Northwest combined], United will say, ``You know what, between 
        those two guys they might put 100 flights into L.A. Screwing 
        with one might be the same as screwing with the other.'' Now, 
        as a joined-at-the-hip partner with Northwest, you better watch 
        out if we do get upset. We have a lot of different ways that we 
        can pay you back. [Business Travel News, February 23, 1998.]
    The following article from the May 1998 issue of Air Transport 
World describes the type of actions taken by large carriers:
          In testimony before Congress last fall, Reno Air VP/General 
        Counsel Bob Rowen said that when Reno entered the Detroit-Reno 
        city-pair with nonstop service, Northwest, which did not offer 
        a nonstop in the market, inaugurated its own nonstops and 
        flooded the route with capacity. ``A market that Reno entered 
        with fewer than 4,000 seats per month soon had over 24,000 
        seats per month,'' said Rowen. Northwest also offered nonstop 
        fares that were lower than its previous one-stop fares, he 
        said. Rowen alleged that Northwest was guilty of predatory 
        pricing in another instance. When Detroit-based start-up Spirit 
        Airlines entered the Detroit-Boston market, a market heavily 
        served by NWA, ``Northwest dropped its fares by over 50%.''
          Major airlines are unapologetic about these actions. ``The 
        imperative to defend . . . core markets means that when 
        challenged, we will compete aggressively with whoever 
        challenges us,'' says Crandall. [Bob Crandall, former CEO of 
        American Airlines.] Matching fares and boosting capacity in the 
        face of a challenge are ``only natural,'' since ``every 
        consumer's first concern is price,'' while adding service 
        ``enhance[s] the quality of its product offering.''
    It is clear that some large carrier continue to engage in actions 
to discourage competition. The following statement from a Hoover 
Institute essay, ``A Fair Fight'' explains the likely motive behind 
this behavior:
          In the late 1970's and early '80s, the dominant view among 
        economists was that so-called predatory pricing--pricing below 
        your firm's own costs with the purpose of driving your 
        competitors out of business--was not a profitable strategy. The 
        reason was simple: If you price below cost, you lose money. And 
        if you win market share from your competitors, you lose even 
        more money.
          For predatory pricing to be worthwhile, the ``predator'' must 
        more than make up such losses by charging a higher price once 
        all its competitors drop out. But there's a problem: Once the 
        predator raises prices above what they were when competitors 
        were present, other firms will be tempted to enter the market. 
        Some resourceful competitor might even buy the assets of the 
        ``victim'' at fire-sale prices.
          American judges who are asked to rule on antitrust matters 
        have, by and large, agreed with this economic reasoning. But in 
        the past 10 years or so, some economists, particularly those 
        who employ game theory, have revived the idea of predatory 
        pricing. They argue that if the predator can convince his prey 
        (i.e., potential entrants) that he's serious--or 
        ``committed''--he can deter entry after he raises his price. 
        Who, after all, wants to be the next sucker to lose his shirt? 
        [David R. Henderson, Viewpoints, Stanford University.]
    To demonstrate the significant advantages held by the nation's 
largest carriers, I have attached a number of charts that highlight 
advantages held by those carriers and the status of a new entry. As new 
entrants are driven out of markets and fares increase, the impacts are 
          Business travelers have been forced in recent years to bear 
        the brunt of higher fares in markets where network carriers 
        aren't exposed to low-fare competition, and business fares 
        continue to rise. [Department of Transportation ``Competition 
        in the U.S. Domestic Airline Industry: The Need for a Policy to 
        Prevent Unfair Practices'', July, 1998.]
    In describing the impact of predatory behavior, in its comments to 
the Department's proposed Policy, the National Business Travel 
Association stated:
          Characteristically, corporations bear a disproportionate 
        financial burden for air travel by their employees when 
        contrasted to the amount that leisure travelers pay for their 
        airline tickets. Often business travel fares are four times as 
        much as leisure fares because of the price of the airline 
        ticket and the accompanying federal passenger taxes.
          To a great extent, we have arrived at the current dilemma 
        because the Departments have not acted. They have allowed the 
        situation to drift, with no enforcement or clearly defined 
        rules of the game spelling out for airlines and consumers alike 
        what acceptable competitive behavior is under deregulation. The 
        Departments have not defined what constitutes predatory pricing 
        or unfair competitive practices and have not, until recently, 
        shown much inclination to act on those practices.
    The need to move forward was emphasized by an editorial in Business 
Week (Airlines Should Reform Themselves,'' February 16, 1998.):
          Consider some recent trends: Price-gouging of business 
        customers. Virtual monopolies on certain routes. Neglect of 
        small markets. Now, Washington is on the case, with the 
        Transportation Department and Congress mulling some moves.
          Of all the reforms being contemplated, Transportation's is 
        the most worthwhile. Defining predatory behavior and setting up 
        a mechanism by which airlines can be monitored and complaints 
        promptly adjudicated would go a long way toward countering the 
        most flagrant anticompetitive acts--like when Northwest 
        Airlines Inc. pulled out all the stops in 1993 to outsell Reno 
        Air Inc.'s new route between Reno and Detroit, going so far as 
        to establish a mini-hub in Reno, a city it had never before 
          On some business routes, the big airlines have stopped 
        competing on price. At some airports, they have a lock on 
        slots. The upshot: New competitors can't even get to the gate, 
        and underserved markets remain so.
    Total deregulation is fully supported by small carriers. For a 
competitive air system to survive, we must have a level playing field 
and open markets. It is essential for this Committee to urge the 
Departments of Transportation and Justice to ensure the future of 
airline competition. Without it, business will be impaired and 
travelers will not be able to visit friends, relatives, take vacations 
and important business trips. Deregulation should not only exist in 
certain markets and for certain carriers.









                         American Society of Travel Agents,
                                       Alexandria, VA, May 2, 2000.
Hon. Mike DeWine,
Chair, Senate Subcommittee on Antitrust, Business Rights and 
        Competition, Dirksen Senate Office Building, Washington, DC.
    Dear Senator DeWine: The American Society of Travel Agents (ASTA) 
applauds your efforts to continue monitoring competition in the 
aviation industry. As a proponent of airline deregulation and an 
advocate of the traveling consumer, ASTA is deeply concerned with the 
rising tide of consumer dissatisfaction with air transportation which 
reflects a lack of effective industry competition.
    Although there are many complex issues facing the airline industry 
today, ASTA submits for the hearing record on Airline Competition the 
attached filing with the Department of Justice (DOJ) on the proposed 
operation of a joint airline web site. Our filing requests the DOJ to 
investigate and undertake enforcement action with respect to the stated 
plan of the major United States and foreign airlines to create a joint 
Internet Web-site to monopolize the provision of retail travel services 
on the Internet and, ultimately, in all markets. Most recently, 
American Airlines joined the site as the fifth equity owner. No other 
industry of which ASTA is aware has attempted such a frontal assault on 
the competitive process.
    ASTA encourages the Subcommittee to closely follow the developments 
of this web site as it reviews all the current aspects of competition 
in the aviation industry.
                                             Paul M. Ruden,
                   Senior Vice President, Legal & Industry Affairs.
                         American Society of Travel Agents,
                                 Alexandria, VA, February 16, 2000.
Hon. Joel I. Klein,
Assistant Attorney General, Antitrust Division, Department of Justice, 
        Washington, DC.
    Dear Mr. Klein: The American Society of Travel Agents, Inc. 
(``ASTA'') respectfully requests the Department of Justice to 
investigate and undertake enforcement action with respect to the stated 
plan of the major United States and foreign airlines to create a joint 
Internet Web-site to monopolize the provision of retail travel services 
on the Internet and, ultimately, in all markets.
    The agreements of which we complain, will, in the words of the 
recently, published Draft Antitrust Guidelines for Collaborations Among 
    \1\ 64 Fed. Reg. 54483, 54489, October 6, 1999.
          ``involve agreements on price, output or other competitively 
        significant variables, or on the use of competitively 
        significant assets, such as an extensive distribution network, 
        that can result in anticompetitive harm. Such agreements can 
        create or increase market power or facilitate its exercise by 
        limiting independent decision making; by combining in the 
        collaboration, or in certain participants, control over 
        competitively significant assets or decisions about 
        competitively significant variables that otherwise would be 
        controlled independently; or by combining financial interests 
        in ways that undermine incentives to compete independently.''
    Whatever limited efficiency-enhancing integration of activity may 
be plausibly claimed for the joint Web-site cannot overcome the fact 
that all such benefits can be achieved ``through practical, 
significantly less restrictive means.'' Consequently, these agreements 
are not ``reasonably necessary,'' as defined in the Guidelines, to 
achieve any procompetitive benefits.\2\ For example, United Airlines, 
the largest of the partners in this venture, has created a new company 
to continue operating its own Web-site, www.ual.com, which already 
offers booking services for over 500 airlines, 45 car rental firms, and 
30,000 hotels worldwide.\3\ The joint Web-site will add nothing that 
cannot be achieved through independent action by these giant 
    \2\ Id. at 54487.
    \3\ United also operates the Web-site for the nine-carrier Star 
Alliance at www.star-alliance.com.
    We believe that the proposed arrangements must inevitably lead to 
price fixing and on their face involve a concerted refusal to deal with 
travel agencies, both per se violations of the antitrust laws. For 
example, United owns 17 percent of Galileo, the Computer Reservation 
System, and is funding $5 million in advertising and promotion for a 
new Galileo Web-site that will undercut existing commission rates paid 
to online travel agencies to induce listing of fares that also undercut 
the prices that United provides to those agencies for resale to the 
public. The new joint Web-site appears to contemplate similar 
arrangements from which travel agents will be excluded. How can the 
airlines make joint claims for what this Web-site will offer without 
exchanging and committing to future price understandings and policies? 
The desire to make this partnership, involving a huge segment of the 
airline industry's assets, a success at its stated goals will undermine 
incentives to compete vigorously and heighten the already pronounced 
tendency of the airlines to copy each other in almost everything they 
    In practical effect, the United States airline industry has begun 
to operate as a single enterprise, of which the joint Web-site is just 
the most recent manifestation. A graphic illustration of the 
extraordinary network of commercial relationships that have developed 
between the domestic carriers (and many of their foreign counterparts), 
involving most of the major industry assets devoted to the production 
and sale of domestic and foreign air transportation, is set out in 
Attachment A to this letter. It is doubtful that any industry in this 
country, or the world, exhibits such incestuous interconnectedness 
among firms that are supposed to be full-fledged competitors.
    While there are still some signs of competitive life left in the 
industry, the opportunities for their long-term survival are quickly 
diminishing. If the Department of Justice does not intervene 
immediately to stop the unification of the competitive assets and the 
destruction of the competitive spirit of this industry, it may be too 
late to do so later when the damage caused by these amalgamations is 
more obvious. We leave this introduction with this non-legal but 
insightful commentary:
          A century-old principle of antitrust is that when the same 
        company controls both content and the carriage of content, 
        anticompetitive abuses arise. The gate keeper (such as a 
        railroad) can overcharge users, keep out competitors, and 
        frustrate technological advance. This led the government to 
        insist that companies must choose between being common carriers 
        or providers of content. You could be railroad or shipper that 
        uses railroads, not both, and as railroad you had to treat 
        shippers equally. You could control the TV network, but not the 
        production companies. If you were the phone company, you had to 
        connect all calls.
          The Internet has different technologies, but similar 
        economies principles. There is the same temptation to combine 
        and dominate, less to achieve economies of scale than to 
        achieve market power . . . Far from being scrapped, antitrust 
        policy needs to be brought into the Internet Age.\4\
    \4\ ``Pirates, Snoops, Monopolists: Why the Net Needs Some Cops,'' 
Robert Kuttner, Business Week, February 21, 2000, at 24.


    On November 9, 1999, four major airlines, United, Delta, Northwest 
and Continental, together representing more than 45 percent of the 
passengers carried in domestic air transportation (more than 11,482, 
daily flights), announced a ``partnership'' to operate a ``multi-
airline travel portal'' that was self-proclaimed to ``offer the most 
comprehensive selection of online airfares and other travel information 
available anywhere on the World Wide Web,'' a site ``superior to all 
travel sites,'' a site with ``the best of everything.'' \5\
    \5\ Joint Press Release of United, Delta, Northwest and 
Continental, November 9, 1999.
    It is important to understand the significance in this claim of the 
phrase ``online airfares.'' This does not refer merely to the 
publication on the Internet of otherwise generally available airfares. 
It refers instead to the publication of fares not available anywhere 
but the Internet, and thus leads to the additional claim that ``for the 
first time, online travel consumers will be able to compare and 
purchase the Internet fares offered by several airlines . . . by 
visiting just one site.'' \6\ ``It would support our business model if 
they supplied special Internet-only capacity.'' \7\
    \6\ Id.
    \7\ Attributed to Ben Burnett, Vice President of Boston Consulting 
Group, a firm retained to act as ``temporary launch manager.'' ``Nearly 
Two Dozen Airlines Will Join Planned Web Site of Four Big Carriers,'' 
Susan Carey, Wall Street Journal, February, 2000.
    This, then, is the real goal of this venture: to combine in one 
retail location owned and controlled by the airlines the Internet-only 
fares offered to consumers and not available for sale by the 
independent travel agency community whose members are, in every other 
respect, the full and unqualified agents for these airlines for the 
retail sale of air transportation. The joint announcement makes clear, 
moreover, that this new joint site is not in lieu of the individual 
Web-sites provided by the participating carriers--those will continue 
to operate and will continue to offer Internet-only fares also.\8\
    \8\ Id.
    The joint announcement refers also to ``unique travel packages'' 
that will be offered through ``combined product offerings of our [non-
airline] partners.''
    Predictably, and in keeping with the airline industry's history of 
advance announcements to their competitors of business intentions, 
additional airlines have stated their plans to join the pack, yielding 
a total, to date, of 27 airlines, including American and US Airways. 
These new airlines are called ``Charter Associates,'' but the exact 
nature of their relationship to the four ``founders'' has never been 
made clear. The added participation of the new US airlines brings the 
combined market share of the partners to more than 68 percent of 
domestic passenger traffic. The other participants include some smaller 
U.S. airlines plus Air Canada (the monopoly route carrier in Canada), 
Alitalia, KLM Royal Dutch Airlines and other major foreign carriers. 
Press reports indicate that other participants are expected.
    The latest press report is that many of the participating European 
carriers are now discussing a joint Web-site of their own, involving 
virtually all of the principal U.S.-Europe foreign airlines (including 
Air France, British Airways, Lufthansa, Iberia, Swissair, and Sabena. 
Air France has stated that its marketing alliance will also have a 
joint Web-site. Most of these carriers have marketing alliances and/or 
code-share agreements with the partners in the US carrier Web-site. How 
long will it be before these sites are merged? \9\
    \9\ Those same airlines are parties to a proposal to assign common 
identified numbers to corporate clients so that, among other things, 
airline alliances can ``track corporate business across several 
airlines.'' See Application for Approval of Agreements by the 
International Air Transport Association, Docket OST-99-6694-1, filed 
December 21, 1999.
    Any hopes that anyone had that the Internet would remain a vigorous 
and open competitive marketplace are about to be dashed on the rocks of 
consolidated market power in the hands of a few industry giants. For 
example only, research released on February 3 by Gomez Advisors states 
that three ``dominant online travel firms . . . now take in over 40 
percent of all online travel bookings.'' \10\ One of these firms, 
Preview, is about to merge into one of the others, so there will two 
firms with a 40 percent share.
    \10\ See http://biz.yahoo.com/prnews/000203/
    The Gomez report states that:
          ``the real leaders are solidifying their dominant positions . 
        . . the online travel giants are gobbling up as many niche 
        companies as possible in an effort to dwarf any smaller 
        competitors. This amount of consolidation taking place in the 
        market is making it nearly impossible for any but the top three 
        online travel sites to earn significant revenues.'' \11\
    \11\ Id.
    The airlines' collective attempt to cut off the online agencies at 
the pass may or may not ultimately leave a survivor or two. Perhaps the 
best outcome that can now be foreseen for retail travel completion on 
the Web is one in which two or three consolidated sites compete for 
almost all the business. All others will be shut out.
    More likely, however, is the prospect that the airlines, by 
combining assets and special fares not available to their competitors, 
will succeed eventually (and in the Internet world ``eventually'' is 
not far off) in destroying all their competition online as well as 
offline.\12\ After all, once allowed to establish themselves 
collectively on the Internet, what is there to stop the airlines from 
completely terminating the compensation they pay to their online 
competitors? This will leave the airlines in sole control of the supply 
of information on which consumers must rely to make comparisons among 
competing choices.
    \12\ Traditional travel agencies are declining in number in the 
face of the combined onslaught of reduced commissions (50% in four 
years) and numerous other marketing practices calculated to raise 
agency costs and impair their competitive flexibility. See ASTA's 
Complaint in ``In the Matter of American Society of Travel Agents, 
Inc.'', Docket OST-99-6410, U.S. Department of Transportation.
    Such an outcome has no precedent. Since the earliest days of 
commercial aviation, there has been an independent presence in the 
market, offering consumers an alternative to dealing directly with the 
airlines for information and transactions. It may be hard to conceive 
that it could happen so swiftly, given the short life of the Internet, 
but all signs now point to the complete domination of the Internet by a 
handful of firms.
    All of this is occurring just when traditional travel agencies are 
extending their customer outreach to and through the Internet. One 
example, previously brought to the department's attention, is Act 
Travel at www.actdc.com which maintains a traditional brick-and-mortar 
agency as well as a booking engine online. Today's travel agencies are 
rapidly adapting to new means of commerce like the Internet and to 
hybrid business models that encompass electronic communications and 
booking services in a diverse array of service packages. All of these 
agencies, newcomers and traditional agencies, that use or will use the 
Internet for booking travel are considered ``online agencies'' for 
purposes of this complaint.
    Both the fully online agencies and the ``traditional'' agents who 
have embraced this technology provide an efficient means to deliver the 
one-stop, accurate, and unbiased comparative travel information and 
advice that consumers value. This avenue has become increasingly 
important to agents as airlines' reductions in compensation to non-
compensatory levels place them in a profit squeeze and threaten to 
deprive the public of the access that travel agents uniquely provide to 
comparative price information.
    The airlines are not content to compete with these firms for 
consumer patronage. They are intent now upon massing their forces so as 
to dominate the medium and thereby control the message.
    If the airlines can divert any meaningful amount of this business 
to their individual Web sites while deterring travel agencies from 
reaching consumers through the Web, the potential gain to them is 
enormous, not merely in commissions avoided, but in the higher overall 
prices that consumers will pay for air travel. Deprived of easy access 
to independent sources of comparative price and service information, 
consumers inevitably will end up paying more, on average, even if the 
airlines never raise another fare.
    Clearly, the airlines would like customers to make their 
reservations directly on the carriers' own Web sites. Standing alone, 
that objective does not necessarily offend competition policy. But the 
airlines have gone well beyond merely luring consumers with ``better 
deals.'' They have implemented commission policies and other 
restrictions with respect to Internet-based bookings by travel agencies 
that are designed to thwart travel agency use of the Internet to 
communicate and book travel. The more successful they are in this 
approach, the fewer practical options consumers will have for comparing 
prices and purchasing travel, leading to less competition in travel 
services and higher prices for consumers. We have attached to this 
letter a copy of ASTA's complaint to the Department of Transportation 
in Docket OST-99-6410, wherein we detail other competitive abuses 
directed at the independent travel retailer by the major US airlines.


    No other industry of which we are aware has attempted such a 
frontal assault on the competitive process. Time is running out. The 
expansion of the joint Web-site is well-advanced.
    The Department should issue a Civil Investigative Demand upon all 
the partners in the proposed Web-site to obtain inspection of the 
underlying agreements and marketing plans. That is the only way anyone 
can be satisfied that this scheme is not what we have alleged it is: 
the finishing blow in a campaign calculated to destroy public access to 
comparative information about air travel services and to end once and 
for all the hope for a vigorous competitive industry that was the 
promise of airline deregulation in 1978.
    ASTA would be pleased to meet with representatives of the Antitrust 
Division to discuss this matter further.
            Respectfully submitted,
                            American Society of Travel Agents, Inc.










Prepared Statement of T. Allan McArtor, President and CEO, on Behalf of 
                            Legend Airlines

    On behalf of Legend Airlines, I would like to thank you for holding 
this hearing and addressing airline competition issues. We appreciate 
the opportunity to provide the information on the status of competition 
in the airline industry from a new entrant's perspective. Let me begin 
by stating that I thought that my prior experiences as a combat pilot, 
head of Federal Express Airline and Administrator of the FAA had 
prepared me for my current assignment. Well, I can now assure you that 
nothing prepares one for attempting to start a new entrant airline 
carrier, particularly in a city dominated by one of the world's largest 
air carriers. We never could have imagined that a carrier that fought 
so hard against us and our right to fly under federal laws in multiple 
forums would then turn around and duplicate our premium service at Love 
Field and nowhere else. American continually switches its positions--
one day arguing that it and DFW Airport would be destroyed and that it 
would be best if the Supreme Court blocked flights out of Love Field, 
the next day arguing that they owe it to the people of Dallas to offer 
service at Love Field. It would not be surprising if American changes 
its story again tomorrow. The bottom line is, if a carrier is allowed 
to go to such extremes to drive a new entrant out of business, the 
future of competition indeed looks bleak.
    Legend Airlines is a new entrant carrier operating out of Dallas 
Love Field that started service on April 5 to Washington Dulles, Los 
Angeles, and Las Vegas. We fly jet aircraft reconfigured to hold only 
56 seats (consistent with federal law), offering premium service at 
coach fares. Since Legend was founded in 1996, American Airlines and 
its surrogates have been waging a multi-million dollar litigation and 
media campaign to put us out of business. It is difficult enough to 
start out in a market where the incumbent carrier has a 75 percent 
market share, but Legend was willing to compete in accordance with 
federal law and DOT orders. From the sheer magnitude of American's 
response, you would have thought Legend was a 400 aircraft operation 
with multiple alliances--certainly not what it is, a four aircraft 
startup with jets limited to 56 passengers. (For comparison's sake, 
American has 32 alliance partners, a 641 aircraft fleet and 
approximately 1,000 slots at O'Hare Airport.)
    When Legend and Continental Express first announced plans to fly 
out of Love Field--consistent with federal law known as the Wright 
Amendment, American's CEO Robert Crandall announced that ``if the 
Wright Amendment is ever changed, we'll sue everybody in America to 
close Love Field.'' The headline in the October 4, 1996 Dallas business 
Journal stated, ``AMR chief promises to fight to the death on Love 
Field.'' They were not exaggerating. Before Legend even filed for DOT 
certification, American was intent on destroying it. In October 1997, 
Congress passed the Shelby Amendment, which amended the Wright 
Amendment expressly allowing jets reconfigured to carry no more than 56 
passengers to any destination. Before the President had signed the 
Shelby Amendment into law, American sued Legend, Continental Express 
and the City of Dallas in Texas state court to prevent us and 
Continental Express from operating out of Love Field.
    While many cities throughout this country--including Houston, New 
York, Washington, D.C., Los Angeles, Miami--have many multiple airports 
that compete, as a part of American's campaign, it spread misleading 
information throughout the Dallas area that American and its DFW hub 
would be destroyed by any level of competition introduced at Love 
Field.\1\ American opposed allowing nonstop flights to Mississippi, 
Alabama and Kansas and use of 56-seat aircraft to any destination. Such 
oppressive restrictions exist nowhere else in the country. Such 
restrictions exist nowhere else in the world.
    \1\ An example of American's misinformation campaign: ``Because 
more than 90% of Dallasites and more than 50% of Metroplex residents 
live closer to Love Field than DFW, airlines will add service at Love 
and reduce it at DFW. With fewer local customers, in the long term DFW 
will not compete with hubs like O'Hare, Atlanta, and Denver. DFW will 
become a second-tier hub.'' [Dear Colleague Letter from American 
Chairman, Don Carty, July 6, 1998.]
    To demonstrate that it is not just a one-carrier predator, American 
also challenged Continental Express' right to fly 50-seat regional jets 
from Love Field to Cleveland. It announced that it would use 12 LGA 
commuter slots to serve LaGuardia-Cleveland--one of Continental's hubs, 
a market where Continental already operated six daily roundtrips.\2\
    \2\ The following news reports describe a series of actions taken 
by American to drive Continental Express out of Love Field:
    American said Monday that it is starting service from Austin to 
Houston's Hobby Airport on September 9, the same day American also 
plans to launch three daily flights from Hobby to New York's LaGuardia 
    The new service comes as Continental presses its own plans to fly 
from Dallas Love Field to Continental's hub in Cleveland. A state 
district judge in Fort Worth has blocked that service at the request of 
Fort Worth and Dallas/Fort Worth International Airport board.
    Analysts said American's new Houston Service appears to be simply 
retaliation against Continental's Love field plans.
    ``It's spite,'' said Joseph Berman, senior aviation analyst at 
Avmark Inc. ``They're saying, `If you're going to go into our market 
and do that, we're going to go into your market and do this.' '' 
[Dallas Morning News, Tuesday, July 21, 1998.]
    In commenting on American's action to stop Continental Express' 
proposed flights at Love Field, David Siegel, President of Continental 
Express, Inc., stated in Commuter/Regional Airlines News (July 20, 
1998): ``It is refreshing to see new leadership at DFW's flagship 
airline. Many hoped that with the easing of the dress code at American 
Airlines would be more than symbolic. But whether dressed up or dressed 
down, the same old anticompetitive, protectionist actions continue to 
thrive and deny consumers their rights to choice convenience and 
reasonable fares.''
    Analysis of American's Houston-LaGuardia service is similarly 
enlightening: ``. . . but Carty is `no pushover by a long shot,' the 
[American] official said, describing him as tough and aggressive, 
particularly when it comes to competitive response. `Don [Carty] 
doesn't like to sit there and take it,' he said, `He wants to 
retaliate' . . . its unusual for us to fly nonhub-to-nonhub routes,' an 
official said. `It's a signal to anyone who comes messing around with 
our market.' '' [``American Builds on Crandall's Legacy,'' Aviation 
Week & Space Technology, August 24, 1998.]
    Because these were federal issues and impacted the national 
aviation system and interstate commerce, DOT tried to resolve the 
conflict by instituting an Interpretive Proceeding wherein it 
considered whether federal law permits Legend's proposed operations. On 
December 23, 1998, DOT issued a Declaratory Order finding that Legend's 
proposed service is authorized under federal law. American and its 
partners appealed that decision to the Fifth Circuit Court of Appeals. 
On February 1, 2000, the Fifth Circuit rendered a decision affirming 
DOT's Orders and upholding Legend's authority under federal law to 
operate at Love Field. (Fort Worth has petitioned to bring this case 
before the Supreme Court. It is expected that American will file as 
    Within two hours of the Fifth Circuit decision, American announced 
plans to reconfigure Fokker 100 jets and MD-80 jets (normally seating 
135 passengers) to combat Legend. As reported by the February 2 Dallas 
Morning Star, ``American's plan is to create a special fleet of jets 
that will be used at Love Field only.'' Therefore, in its effort to 
copy Legend, American is spending millions of dollars to reconfigure 
each of the aircraft it will utilize at Love Field (this is in addition 
to the expenses it will incur at Love Field to build and upgrade 
facilities,\3\ add personnel, build catering facilities, and create a 
specialized marketing program) in Legend's markets with the sole intent 
of driving Legend out of Love Field.
    \3\ American spent close to $100 million to block the use of 
certain passenger facilities at Love Field, claiming that they would 
use the facilities for office space. In 1997, American entered a 25-
year lease for ``office space'' in a former Love Field terminal at an 
annual lease price of $3.5 million. The facility needs approximately 
$8.5 million in asbestos work and several million dollars worth of 
general renovations.
    American has admitted that it will not use these aircraft in other 
markets. If American were to utilize these aircraft elsewhere in this 
system or halt this service, they would again reconfigure these 
aircraft to restore the original interiors. Although this would add 
millions of additional dollars to its costs, American is prepared to do 
    American has made it very clear that it would prefer that all 
service from Love Field to destinations beyond the four border states 
be prevented, regardless of the million they are spending.
    American's spokesman explained its actions in the Dallas Morning 
          ``If Legend is allowed to fly out of Love Field, we will also 
        fly out of Love Field, and we will fly in competitive markets 
        and at competitive fares,'' said American spokesman Tim Doke, 
        adding that American can offer more flights than Legend to the 
        same destinations.
          ``We are confident that a court will step in and enjoin 
        Legend from selling tickets,'' Mr. Doke said.
          Fort Worth has appealed a lower court ruling that allows 
        long-haul service from Love. If the Supreme Court takes the 
        case and rules in Fort Worth's favor, it means that American 
        would have to ``undo all that we've done--all the planes we've 
        reconfigured and so forth,'' Carty said.
          But, even so, ``For a whole variety of reasons, we continue 
        to believe that from American's perspective, that's better for 
        us, even though it would cost us some money,'' Carty told 
        reporters after a speech yesterday at the SMU Management 
        Briefing Series at the Fairmount Hotel.
          Carty said earlier that it would be better for the region if 
        the Supreme Court were to overturn the 5th U.S. Circuit Court 
        of Appeals' Feb. 1 ruling. (Forth Worth Star Telegram, April 
        20, 2000.)
    American has never utilized aircraft with one level of service and 
never shifted operations to Love Field to combat Southwest. Nor has 
American added flights to Cleveland to challenge the operations of 
Continental Express out of Love Field. Moreover, when Midwest Express 
(another carrier with an upscale interior and special flight amenities) 
entered the DFW market American did not reconfigure aircraft to match 
Midwest Express' cabin configuration.\4\
    \4\ American now codeshares with Midwest Express.
    The markets selected by American for its Love Field service further 
demonstrate that it is focusing on Legend. Although American serves the 
DFW-LAX market with 18 roundtrips per day, after hearing that Legend 
would operate to LAX, American immediately announced LAX as the first 
market it would serve from Love Field, offering four roundtrips. As a 
result of American's DFW-LAX schedules, American has a total of 20 
flights in the same time period. For example, Legend has a 5:10 p.m. 
departure at Love Field which is surrounded by American flights at 
3:50, 4:00, 4:30 (Love Field), 5:15, and 6:00. This is a prime example 
of an already dominant carrier adding to its market presence to leave 
little room for a new entrant. To dissuade Legend from entering the 
Chicago market after Legend announced its intent to serve Chicago, 
American will increase its roundtrips to 33.\5\ In addition, American 
is matching fares, offering discounts and turning the heat up on travel 
agencies and corporations.
    \5\ American has over 1,000 slots at O'Hare; therefore, it can 
adjust schedules at will. Since O'Hare is a high density airport, 
Legend was blocked from entering that market. Now American has 33 
scheduled roundtrips from Dallas to Chicago, Therefore, American will 
make it difficult for Legend to enter that market.
    As to why American is increasing its O'Hare frequencies: ``If a 
simple price match is insufficient to deprive an entrant of enough 
local traffic to survive, the hub carrier can shift enough capacity to 
the local markets to accomplish that goal. Moreover, where service in a 
market is constrained by slot availability, a hub carrier with access 
to a large pool of slots has even greater ability to respond to entry 
in this way because the entrant will be unable to add capacity on its 
own. American's president has referred to such strategic responses as 
predatory scheduling. The net result of predatory scheduling is to 
discourage a new entry in the first place, or render it unprofitable 
where it occurs. [Department of Justice Comments on Joint Application 
of American Airlines and British Airways' Application for Antitrust 
Immunity and Alliance Agreement (OST-97-2058), May 21, 1998.]
    While Legend's officers and stockholder fully understand the 
competitiveness of the air carrier industry and the enormous advantages 
that American already holds in the Dallas-Fort Worth marketplace, 
American's overall actions amount to much more than competition. If 
this is not a classic case of predation, then it is hard to imagine 
what would cross the line. As the Department of Justice in United 
States of America v. AMR Corporation, Civil Action N. 99-1180-JTM, May 
13, 1999 accurately surmised:
          American is under investigation for a series of actions taken 
        against new entrants. American dominates DFW and charges 
        monopoly fares on many DFR routes. When small airlines try to 
        compete against American on these routes, American typically 
        responds by increasing its capacity and reducing its fares well 
        beyond what makes business sense, except as a means of driving 
        the new entrant out of the market. Once the new entrant is 
        forced out, American promptly raises its fares and usually 
        reduces its service. Through its predatory and monopolistic 
        conduct, American deprives consumers of the benefits of 
        competition in violation of the antitrust laws.
    As American, its affiliates and alliance partners control 75 
percent of the Dallas/Fort Worth market, it makes it very difficult for 
a new entrant to compete. In addition to its other advantages, if a 
carrier with that much control over the marketplace can add any number 
of flights in a new entrant's market and add a type of service it has 
never before operated, then new entrants may be a thing of the past. 
For these reasons, it is essential the DOT and DOJ actively pursue 
carriers who engage in anticompetitive behavior and threaten to destroy 
the benefits of deregulation. I urge this Committee to remind both DOT 
and DOJ that it must move aggressively to ensure that deregulation is 
not just a distant memory.