WEEP NOT FOR BANKRUPT US Airways, or soon-to-be-bankrupt (so it says) United Airlines. They are not victims of the disruption of air traffic after September 11. Their difficulties began long before jihadists turned airplanes into missiles. Greedy unions, inept management, flawed government policies, and–perhaps most important–a secular change in the market have combined to increase the flow of red ink to levels that threaten the ability of many major airlines to survive as they are now structured. And don’t worry too much about the effects of bankruptcy on your ability to fly from one place to another. Bankruptcy does not mean that a major airline is grounded. Indeed, the purpose of the bankruptcy laws is to permit the carrier to continue operating while it sorts out its finances, as Continental and America West have done in the past. Travelers dependent on bankrupt USAirways have experienced no service disruption so far, although the longer-run prospects for undiminished service are less certain. Start with the situation at United. It is difficult to tell whether the carrier truly feels that bankruptcy is around the corner, or is using the threat of a Chapter 11 filing to wring concessions from its unions and a bailout from the government. United has asked the government for a $1.8 billion loan guarantee to back a private loan of $2 billion. Either because it doesn’t want to get into the bailout business, or because it believes that United’s $2.4 billion of cash and $3.4 billion in unencumbered assets provide it with sufficient resources to repay the $875 million in debt coming due in the final quarter of this year and the $150 million due early next year, the government has signaled that it won’t provide the guarantee. Which comes as a relief to United’s competitors, who are lobbying furiously to prevent the government from making funds available to the troubled carrier. Besides, the government is unwilling to ride to the aid of the airline unless it gets its labor costs under control, which it has been unable to do in part because it is 55 percent owned by the workforce from whom major concessions would have to be wrung. The Association of Flight Attendants has rejected management’s request for a 5 percent pay cut, and the International Association of Machinists has refused the company’s plea to lower wages for ramp workers, mechanics, and gate attendants by 10 percent. Only the astronomically paid pilots have agreed to some salary reductions, but those are “wholly insufficient to secure approval for a government loan guarantee,” says Sam Buttrick, an analyst for UBS Warburg. United probably needs an across-the-board 10 percent pay cut from all its unions if it is to avoid bankruptcy. The focus of most analysts has been on the problem created for major carriers by the failure of traffic to return to pre-September levels. Which it certainly hasn’t. Continental reports that traffic in July was 8.6 percent below year-earlier levels. The drop at Delta is 6.6 percent. And American Airlines is down by a whopping 9.7 percent during what is supposed to be a peak summer travel season. American has responded by laying off 7,000 workers and curtailing some of its schedule. But more important than any temporary adjustments to recession-induced loss of traffic is the fact that American has begun to question the entire premise on which it and other major airlines have based their business model. After fares and routes were deregulated, the big carriers decided that the future lay in developing hub-and-spoke systems. They would funnel passengers into giant hubs–Dallas (American), Denver (United), Houston and Newark (Continental), Chicago (American, United), and Atlanta, Cincinnati, and Salt Lake City (Delta)–and then route them out on conveniently scheduled connecting flights. They soon discovered that this necessitated a two-tier pricing policy. Time-sensitive business travelers (who can’t postpone meetings scheduled for today because air fares might be lower tomorrow) are charged fares high enough to cover a grossly disproportionate share of the airline’s fixed costs. Non-business travelers are offered deals at prices that cover a bit more than the marginal cost of carrying them, and in return live with restrictions on when they might fly–the famous Saturday-night stay-over requirement being only one of several such restrictions. But after a period of prosperity in the booming 1990s, black ink turned to red. The cost of maintaining the hubs proved to be higher than anyone thought, since to make connections convenient it is necessary to schedule in-bound and out-bound flights close together, causing congestion and requiring large numbers of gate attendants and other employees to service the virtually simultaneous landings and takeoffs. The high fixed costs of the major carriers make shutdowns virtually unthinkable. (Lease payments on airplanes continue whether the craft are in the air or idling in hangars.) Realizing this, the unions saw an opportunity to drive wages up, and without striking. Merely by “working to rule” the unions could and did wreak havoc with schedules, irritate airline customers, and get congressmen to put pressure on managements to cave in. Costs rose. So did fares charged to business customers. But the gap between what businessmen are being asked to pay and what travelers in the back of the plane are paying has become so large that even the most price-insensitive customers are stepping to the rear of the plane. Worse still from the hub-and-spoke carriers’ point of view, new start-up airlines are modeling themselves on profitable Southwest Airlines. Tighter seating; peanuts if you’re lucky; use of secondary airports such as Baltimore and Providence; quick aircraft turnarounds; and flexible workforces that check you in, load your bags, and move from job to job and gate to gate, drive costs and, therefore, fares down. And by so much that the inconvenience is more than offset by the savings, persuading more and more potential full-fare passengers of the major carriers that being squeezed between two backpackers is worth the savings. A New England businessman heading to a meeting in Washington, D.C., can fly from Southwest’s Providence airport to its Baltimore airport (about an hour from downtown Washington), and return, for $168. Or he can use USAirway’s somewhat more convenient Boston (Logan) and D.C. (Reagan National) airports, and pay $555 for a coach-class seat. If it’s first-class-or-nothing, he can fly on United from Logan to Dulles (about as far from downtown Washington as is Baltimore), and pay $1,105 to stretch his legs during the 90-minute flight. These differentials are simply unsustainable. And not just on domestic flights. When Virgin Atlantic Airways lowered its round-trip, London-New York business-class fare from $7,624 to $2,999, Continental and United had to follow suit. All of which is forcing the major carriers to begin what may prove to be the unwinding of the hub-and-spoke system. American has decided to increase the time passengers funneled into its hub have to wait for connecting flights. By making connections at its hubs less convenient, American reduces the number of planes arriving and departing at any one time, cutting congestion (and wasted fuel) and the number of ground staff required to service its planes. Alfred Kahn, best known as the father of airline deregulation, says that we may be witnessing a secular change every bit as important as the one that created the hub-and-spoke system. The major carriers are facing “the progressive unwillingness of people to pay the price of very convenient scheduling,” and to pay front-of-the-plane fares high enough to cover the major carriers’ fixed costs. This means that the airlines are doomed to have less cash available with which to pay investors for their capital and workers for their labor. So much less, that the equity of some carriers will be wiped out, the creditors will take what Wall Street calls “a haircut,” and the unions will find their contracts r
ewritten by a gimlet-eyed bankruptcy court judge. “The world has changed,” Jack Creighton, United’s interim chairman and CEO, told the press. Indeed it has. Irwin M. Stelzer is a contributing editor to The Weekly Standard, director of regulatory studies at the Hudson Institute, and a columnist for the Sunday Times (London).
