Introduction
The currently witnessed globalization may be attributed, to a great extent on the expansion and advancement of air travel. In the last few years, demand for air travel has been growing at a high rate due to the increased mobility of people on tourism, diplomatic or business mission. The growth of tourism sector especially in developing countries has influenced the interests of people from all over the world, who prefer to travel abroad for recreation and leisure. In addition, emergence of global markets has influenced corporations to conduct business at a global level, the result of which is increased business travel across the international boundaries. As the world becomes a global village, diplomatic relations are increasing, which involves a lot of travel by political personnel in a bid to create and enhance international cooperation between different nations. All these movements have been made successful by air travel which is convenient and fast.
The rapid growth in the industry has been attributed to ever increasing demand, as well as the global economic growth, which in effect has had an impact on the price elasticity of supply and demand. Despite its convenience and speed, the airline industry has had externalities, both positive and negative. For instance, it is regarded as the most air polluting mode of travel, not forgetting the excessive noise that affects the society in the areas surrounding the airports. This has resulted to governments imposing pollution taxes to the airlines which impact negatively to their cost management. Deregulation has intensified competition, leading to decline in air travel prices. Although this may be a benefit to the society, the result is always cost cutting measures that involve wages interference, thus wage inequality. In addition, the response to the increased competition has been to increase the quality of service through ticket-less travel (automation of travel), onboard entertainment and comfortable seating facilities as the airlines seek to gain competitive advantage. Finally, the vulnerability to attacks and air tragedies have had significant impact on the monetary and fiscal policies as governments step in to exert security measures, which in part come with a fee (more often factored in the ticket prices). This paper will discuss the economic profile of the airline industry including the underlying aspects of price elasticity of supply and demand, externalities, wage inequality and monetary and fiscal policies, as well as how the economic pressures affect the industry.
Shifts and Price Elasticity of Supply and Demand
Price elasticity of demand in the airline industry is based on the purpose of travel, which may be leisure or business. In the last few decades, market conditions have been volatile due to increased inflation, insecurity, increase in oil prices and increased competition in the industry. All these factors have affected the price elasticity of supply and demand of air tickets; for instance, when oil prices rise, air prices will rise and consequently demand will decline; while on the other side, high prices will influence an increase on the supply side of the market. As defined by Mankiw (2004, p. 90), price elasticity of demand in airline industry may be described as the measure of response of demand in air travel resulting from changes in price of air tickets.
Price elasticity of demand for leisure travel will be influenced by market competition whereby, the decline in price will result to high demand of travel while high price will lead to decline in demand. In this case, people traveling for leisure (tourism) will either shed their travel plans when the prices of the air tickets rise, preferring to travel when the market conditions stabilize or will make purchase decisions based on the price of substitute modes of transport. However, the business travelers as well as diplomatic travelers will have an inelastic demand due to the quantity and importance of their demand, which is unlikely to be affected by the rise in price of the tickets. In other words, business and diplomatic travelers are in line of duty where time is of essence; and therefore, the speed to reach to their destination will be more important than the price of the air ticket.
Inflation has also had an effect on price and consequently on demand of the air travel. Generally, inflation according to Mankiw (2004, p. 12) influences the prices of commodities in the economy. Although the rapid global economic growth has brought about increased inflation whose result has been the rise of prices, competition in the industry has as well played a critical price check role that has made the different airlines to adjust their prices to competitive levels.
The rise in prices of the air travel has made the industry lucrative as profits are always high, thus attracting more competing firms, the result of which is increased supply in the market. This scenario explains the fact that price tends to be elastic to supply in the industry where the quantity supplied will directly respond to price adjustments in the market. The effect of this competition is increased supply of services from which the consumers have to make choices, thus creating price rivalry (price reduction).
Externalities
Externalities may be simply described as impacts of the airline industry to the society which is not party to the buyer seller relationship in the air travel transactions. The industry may affect the society through externalities, both positively and negatively, and can also be affected by externalities from other industries or society, all of which interfere with demand and supply in the industry. Security is one of the most sensitive issues in the airline industry and it will not be a surprise to mention that the September 11 tragedy paralyzed the air industry with decline in supply felt all over the world (Fleming, 2009). The result of this was the hike in prices of tickets and to some extent, some airlines collapsed due to bankruptcy. Other externalities that have affected the airline industry include world prices of fuel which tend to affect the profitability of the airlines (Stock Analyst, 2009). This increase in fuel cost, coupled by intense market competition pushes many airlines to the wall, the result of which is a decline of supply in the industry. Moreover, these externalities create market conditions that affect the demand and supply of the airline industry whose effect is also experienced in other parts of the economy.
The demand and supply in the airline industry are also affected by the externalities it caused to the society. The contribution of the airline to economic development as a positive externality can not be ignored. Through air travel, countries, both developed and developing have benefited significantly on the convenience and speed of transaction settlements, faster movement of goods from one country to another and employment opportunities that are offered in the industry (Wensveen, 2007, p. 7). It is therefore no surprise that many governments have treated air transport with a lot of sensitivity as any interference is likely to dent the economic progress.
However, the airline industry is known to cause negative externalities especially when it comes to pollution. The emission from its fuel consumption is a great menace to the environment as it is one of the major polluters of the air. In addition, the airline industry has been a major source of noise pollution especially to the community living adjacent to the airports. These negative externalities have negative impacts not only on climatic changes but also on public health.
Wage inequality
Wage inequality is an issue that has been witnessed in virtually all industries in the global economy. It may arise from differentiation in terms of race, culture, gender, age, education and the strength of employer-employee relationship. Generally, according to Guadalupe (2003, p. 3), wage differential occurs in competitive market/industry where firms compete to attract skilled (and more productive) employees and offering them better pay with expectation that they will be more efficient. In the airline industry, the government regulations stipulate the minimum wage that should be paid per hour, yet there still remains some cases of people earning amounts that are below the minimum wage rate.
Across different nations, airline employees earn differently and although economic status of a country will determine the level of wages, employees from developing countries are always paid less than their counterparts despite them having the same qualifications. In US, the deregulation of the airline industry brought about inequality in wages in various airlines, a case that led to the passing of living wage ordinance by the Federal government to check on the declining performance of the airline industry. Since employee turnover tends to be a dependent variable to wage rate, wage inequality has been forcing employees to switch jobs across the airlines in search of better compensation. Even where employees stick to their jobs, their productivity will be low since they will be less motivated to work under unjustified low wages.
Monetary and fiscal policies
The performance of any industry is, in part, affected by the monetary and fiscal policies made by the government. In the airline industry various monetary and fiscal policies have been made that have tended to affect the industry either directly or indirectly. Monetary policies involve regulation of the money supply in the economy which has a direct effect on the purchasing power of the consumers as well as on the inflation. Where there is inflation, which also means that the air ticket prices will be rising, the government can control or reduce the amount of the money supply in the economy through open market operations and therefore create balance in the economy as whole and the industry in particular.
Fiscal policies involve financial aspects such as taxation where the government will enforce or remove tax on various products depending on the market conditions. For instance, following the September 11 attack, Federal government stepped in to aid the airline industry from total collapse through fiscal policies; this is due to realization that the economy would have been crippled had the airline collapsed. However, these measures by the government included extra taxation labeled aviation security tax that was factored in the prices of air tickets. The real effect was decline in demand for air travel not only due to security fear, but also due to hiked prices. In addition, the fiscal policies and the effects of security concern eroded the airline profits leading to massive layoffs and thus increased unemployment in the global economy. Although fiscal and monetary policies are meant to improve and enhance market conditions, the indirect effects may turn out to haunt the very people that the government seeks to protect.
Conclusion
The airline industry is overly dependent on the market conditions with sensitive price elasticity of demand on leisure travel and inelastic price on business travel. Economic conditions tend to affect the industry performance either positively or negatively. Where the economy is stable and growing, national income rises and the per capita also tends to rise. In effect, consumers will have a higher purchasing power and thus a high demand for travel. In addition, stable economy will accelerate business operations resulting to increased demand for travel on business missions.
Deregulation and monetary and fiscal policies have a positive effect on the growth of the industry. Since the industry was deregulated, there has been increased competition in the industry which has influenced the various players to improve not only on prices, but also on quality of service offered. This has pushed the industry on pedestal of rapid growth as witnessed in the last few years. Monetary and fiscal policies such as the September 11 security tax, though it may be an extra cost to the industry, have led to enhanced security in the industry thus mitigating the potential losses due to terrorism. In addition, the effect of security tax is the creation and enhancement of travelers’ confidence in air travel, leading to increased demand for air tickets and thus growth of the airline industry.
However, some economic influences have direct negative impact on the airline industry. Consumer purchase behavior which is dependent on their incomes as well as the availability of substitutes may be a hindrance to the growth of the industry. This may emanate from economic downturn which affects the spending patterns of consumers and therefore an effect on demand. In addition, inflation may negatively affect the growth of the industry, in that, as prices of other commodities rise, households will be forced to adjust their budgets, especially the potential leisure travelers, thus leading to decreased demand for air travel. Other factors such as the rise in oil prices force the airlines to adjust ticket prices upwards, the effect which is the switching of consumers to substitute modes of travel like road, and rail.
References
Fleming, A. (2009). Airline Losses after September 11. Web.
Guadalupe, M. (2003). Does Product Market Competition Increase Wage Inequality? Web.
Mankiw, N. G. (2004). Principles of economics. 3rd Edition. Chicago, IL: Thomson South-Western.
Stock Analyst. (2009). Global Airline Outlook Seems Cloudy. Web.
Wensveen, J. G. (2007). Air transportation: a management perspective. Surrey: Ashgate Publishing Ltd. Web.