The airline industry has never generated sustained profits -- by some estimates if you add up all the profits and losses since the Wright Brothers flew from Kitty Hawk in 1903, the net would be written in red ink. This year will be no different. The global industry will lose an estimated $9 billion, after running losses of $10.4 billion last year.
The only question now is which carriers will survive the current downturn, offering what sort of schedules and service. Not an easy question, since two forces are at work: the current cyclical downturn, and a permanent change in travel habits.
Press reports are not much help. One day we learn that the industry has lost money in every year since 2001, with the exception of 2007, the next that United Airlines is placing a $10 billion order for 150 new jetliners with either Airbus or United, whichever offers the best deal. One day British Air announces that it won't configure any new planes to allow it to offer first-class service, and Qantas scraps first-class service on three of its long-haul routes, the next day Lufthansa and Air France-KLM announce plans to use their new A380 super-jumbos to expand their premium service offerings (business and first class), never mind that premium travel is down something like 20%.
There is no question that the current downturn is hitting the airline industry where it hurts -- in the premium service category. This is especially true on the trans-Atlantic route on which BA is so heavily dependent for its profits, and in the Asia-Pacific region, where falling cargo business is adding to the carriers' woes. There aren't many bankers and lawyers jetting back and forth around the world these days, and those that are find economy class more consistent with constrained company budgets and less likely to attract criticism from politicians who don't want taxpayers' bailout funds used to finance luxury travel.
Suddenly, business travelers are being offered what by past standards are bargains. BA is offering some two-for-one deals, United is offering discounts reported to be up to 50%. Some price-cutters are making up for lost revenues by requiring obese passengers to buy two seats, and charging for checked bags, extra leg room, and just about everything they can unbundle from the basic fare -- prompting low-fare Southwest Airlines to tout its no-extras policy. If oil prices continue their upturn; if interest rates follow, as seems likely given heavy borrowing by governments; and if the fall in premium travel proves more than a cyclical phenomenon, losses will mount rapidly and we might see some US carriers arguing that what's good enough for General Motors and Chrysler is good enough for us, and get access to some free, taxpayer-provided capital -- with the unions cut in for a large share of the handout.
The good news, of course, is that so far no airline of any consequence has gone out of business. The bad news is that because no airline has gone out of business the global industry has substantial excess capacity, a condition that has plagued it for decades. Old airlines never die, they don't even fade away; they emerge from bankruptcy, or get subsidies from governments that confuse having a national carrier with the maintenance of national prestige. Throw in the expansion plans of the new, state-supported Middle Eastern carriers, and there is little prospect that a lean, mean industry will emerge from the current downturn. Well, at least not a lean one. It is difficult to imagine the pilots' union in this country emulating its counterpart at KLM, where under-utilized pilots are volunteering to do baggage-handling work so as to reduce the airlines' need to hire temporary workers to meet summer peak demand.
But let's be fair: America's unions are bastions of cooperation compared with those in Britain. A former BA CEO once told me that when he flew New York-London he would always meet with the unions at JFK and at Heathrow. The American unions were tough-minded, but understood that he had to deliver profits to his shareholders if BA was to survive, and with it their jobs. At the other end, the unions viewed profits as an unnecessary deduction from their pay checks.
Fare cutting, rising oil prices, competition from low-cost carriers, and a recession haven't fazed the managers of United Airlines, witness that order for 150 new planes. It is true that the new aircraft will be more fuel efficient than the planes they replace, and more able to meet the pollution standards that the EU is preparing to impose on all carriers using European air space. True, too, Airbus and Boeing are so desperate for orders that they are likely to offer attractive prices and, equally important, cheap financing to capture this business. In a sense, United is emulating President Obama, and viewing the current crisis as an opportunity, in this case to add planes to its fleet at attractive prices.
But it is also true that the traditional major-carrier business model, known as hub-and-spoke to describe the system that feeds travelers into a few large cities and flies them out to their final destinations, might well prove unable to compete with point-to-point low-fare carriers such as Southwest. Moreover, the cost cutting triggered by the current recession means that business spending on air travel might never return to the levels in the good old days of off-premises corporate meetings. One CEO with whom I met recently says that his managers have finally learned to use teleconferencing effectively, and that he has cut his annual travel budget from $750 million to $250 million, "and it isn't ever going to go back up." So competition for profitable premium business travelers will be intense.
And these are the people who put a high value on service. Which is why carriers such as Lufthansa are sprucing up their lounges and planes, and other airlines are upgrading customers to otherwise empty first- and business-class in the hope of building brand loyalty. Meanwhile, others have a different strategy: cut cost even at the expense of service quality and scheduling convenience. Which strategy will prove correct only time will tell. But the cost-cutters would do well to keep in mind Gordon Bethune's warning. When serving as CEO of Continental, he told colleagues that if they take too much cheese off the pizza they won't have any customers left.
Irwin M. Stelzer is a contributing editor to THE WEEKLY STANDARD, director of economic policy studies at the Hudson Institute, and a columnist for the Sunday Times (London).