This Month's Editorial

Editorial: What Kind of Downturn Is It?

By Perry Flint
Air Transport World, July 2009, p.2    

As our World Airline Report (beginning on p. 24) makes clear, the past 12 months have not been kind to commercial air transport. ICAO has estimated that the scheduled airline industry posted an operating loss of $9.6 billion in 2008, or $3.8 billion if fuel hedges are excluded, while IATA puts the net loss at $10.4 billion and expects a further $9 billion in red ink this year.

To be sure, these are not large numbers for a global industry when measured against the appalling deficits absorbed by the financial sector and the US auto industry (Citigroup alone spilled $18.7 billion last year; GM lost $16.8 billion). Yet it is the breadth of this downturn that surprises. In past recessions, one or two regions of the world might be in distress but others would be humming along. The Asian currency crisis of 1997-98 was devastating to Asia, yet US airlines enjoyed some of their best profits during the period. Moreover, the biggest impact today is being felt in the front of the cabin, where most of the money is made.

The question is how long this will continue. History provides little clarity, as past events support the views of both optimists and pessimists. In early 2003, Asia's airline industry was reeling from the impact of SARS. At the height of the crisis, planes were flying 25% full. Cathay Pacific cancelled 45% of its schedule.

Singapore Airlines reduced its ASKs by 32%. Yet the disease receded almost as fast as it had arrived and Cathay and SIA both were profitable for the full year. By contrast, US major carriers took five years to adjust to the bursting of the dot.com bubble and 9/11; most of them had to seek Chapter 11 to do so.

Which kind of event are we experiencing today? While SARS did not attack the underlying long-term fundamentals of the business, the changes in the US domestic market at the turn of the century have not been reversed. Spending on air travel in the US as a percentage of GDP never has returned to pre-2001 levels and this had little to do with 9/11. We don't understand all the reasons, but in large part it was owing probably to the emergence of Internet distribution that provided the customer with virtually 100% pricing transparency coupled with the appearance of a ubiquitous nationwide low-fare presence. In combination with the steady rise in the price of jet fuel (prices today are still well above historic norms), this altered the expected course of the US industry.

No one is predicting that the current downturn will lead to the swift arrival of a widespread international long-haul LCC presence, although there are those who see carriers such as Emirates fulfilling much the same function. Pricing transparency is already a larger factor for most airlines in Europe and Asia than it was for US carriers in 1999. So at least in this regard the situation is different. On the other hand, there is an interesting parallel: When the dot.com and tech stock markets fizzled, a lot of business class and premium travel went with them and did not return. Today the 20% decline in premium cabin travel is owing in large part to the recession, but it also is driven by public revulsion at the conspicuous consumption of the West's pampered business and financial elite, who many believe bear a large share of responsibility for the recession. When the economy starts to recover, will this traffic quietly begin to filter back into the forward cabin, or will it vanish like the three-martini lunch and the coffee break?

Perhaps the forces that transformed US aviation eight years ago now are spreading into the international arena with all that entails. In their efforts to return to profitability since the end of 2000, US airlines have undergone enormous change touching virtually every facet of their business, but the things that stick out are these: Airline employment has plunged 28% from its peak in May 2001 from 543,000 to 392,000, according to the Air Transport Assn. Labor costs (wages, salaries and benefits) as a share of operating expenses have declined by about 10 percentage points. The domestic industry has retreated back in size to the position it held just after 9/11 in terms of ASMs, while the legacy portion has shrunk back to its size in the late 1990s.

Yet in spite of all this, the industry has been profitable for just two years this decade. Let us hope that the revenue and traffic trends are just a SARS-like interruption. The alternative is too painful to contemplate.

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