Presentation on theme: "The Hub-and-Spoke Routing for Airlines Costs and Competitiveness"— Presentation transcript:
1 The Hub-and-Spoke Routing for Airlines Costs and Competitiveness
2 Background Airline industry during regulation Entry into the airline industry was limitedBetween 1950 and 1974 CAB rejected applications from 79 possible new airlinesAirline routes were awarded by Civil Aeronautics Board (CAB)Airlines cannot create the route network in the most efficient way
3 Airline Deregulation Act of 1978 1975 route suspension endedCAB allows competition in a market where incumbent was satisfactoryDeregulation Act of 1978Allowed entry into markets unless incumbents can show not in publics best interest
4 Effect of Deregulation Creation of the Hub-and-Spoke system by major airlinesRoutes quadrupled in 18 monthsLower airfares (yield)Better serviceMany market exits
5 Advantages of Hub-and-spoke Consolidation of passengers (economies of density)Decreased number of routesIncrease demand (frequent flights)Consolidation of activities (personnel, maintenance, etc.)Decrease costs
6 Implications Hub-and-spoke should decrease the cost of airlines The more intense the hub-and-spoke system, the lower the unit cost should beHistorical data (pre and post deregulation) should indicate this trend – Study in 1986
7 A Measure of Hub-and-Spoke % of departures from hub airports (hub ID by airlines)% of departures from N airports with largest departuresTop 3% of departures coming from locationsUpper limit = .5
9 Econometric Model Airline cost is a function of: Labor Fuel Capital and materialsAverage stage lengthAverage load factorNumber of airports (points)OutputsHubbing intensity
10 Results Model estimation result – Table 4 For every 1% increase in hubbing, unit costs fall by .11%It does not seem like much, but in 1984 the airline industry may have saved 2 billion dollars due to increased hubbing
11 Hub CharacteristicsCentralized location which minimizes travel on each spokeLocated in large citiesUpper Midwest examples(Chicago, Minneapolis, Detroit, St. Louis)
12 Implications for Competitiveness Desirable hub cities do not have the capacity to become hubs for all airlinesMost desirable cities for hubs are already takenAirlines without hubs at desirable locations may be in disadvantageMonopolistic behavior?
13 How About Point-to-Point? Big exception of Southwest (SW)SW uses P2P – should have higher costs than othersProvides cheap fares (Figure 1)The only profitable carrier in the US (see Table 1)Other majors are in and out of financial ruin since deregulationSimilar models emerging in foreign countries
14 Other Way Round?Hubbed fims begun to offer short-haul P2P to keep SW at bayE.G. United Airlines, the largest airline in the world at the time, started United Shuttle (which made direct flights)Used $1 billion to fight against SWThis and similar attacks all failed
15 Other Way Round? (cont.)Clearly, the benefit of hubbing does not lie in the ability to charge low pricesIncrease in non-hub routes by majors – 134 new nonstop routes in the last year only (New York Times)Why? Is theory not working?
16 Discussion QuestionsWhat are the pros and cons of Hub-and-spoke system?What is the future of hub-and-spoke system?Are there any other ways than hub-and-spoke to increase density and lower cost?From the passenger viewpoint, what are the pros and cons of hub-and-spoke system?Can hub-and-spoke work as a barrier to entry? Under what circumstance?What is the solution(s) for capacity problem?