Themes > Current Issues
04.10.2001
Jayati Ghosh
Somewhere
around the 1980s, public ownership of airline companies began to be viewed
with aspersion in many developed countries. State ownership of national
carriers was deemed to be unnecessary and inefficient, breeding lack of
competition and high costs, and reducing the flexibility required to be
internationally competitive. In keeping with times, over the 1980s and
early 1990s, most such "national carriers" were privatised, and even when
governments retained a share, it was rarely sufficient for management
control.
At the same time, it also became fashionable to decry "over-regulation" in the airline industry, and deregulation was touted as the best means to increase competition and lower air ticket prices for consumers. The more deregulated market of the United States was frequently held up as an example to Europe and other developed regions, of how deregulation could provide leaner, more efficient and therefore cheaper, flight services. (Of course, those who had to travel regularly on the US domestic flights with minimal and grudging service, old and rackety planes and casual safety procedures, realised that there was a definite downside to all this.) By the late 1990s, the skies over Europe too had been substantially deregulated, and most other developed countries in other regions were rapidly following suit.
Strange to say, these moves did not appear to make air travel all that much cheaper, more pleasant, or even safer. In fact, even though the volume of passenger traffic increased exponentially in the decade of the 1990s, these moves did not even make airline companies themselves more profitable. Most of the major international airlines have experienced quite significant financial problems in the course of the past five years, and by early this year the situation became quite acute. The airline industry was one of the worst afflicted by the world economic recession, in particular the slowdown of the US economy, with several carriers being close to breaking point.
And of course, the last month has been nightmarish for the industry. After September 11, the airlines have had to cope with drops in passenger traffic of up to 40 per cent, huge increases in insurance premia, and so on, all of which have thrown their fragile finances into almost complete disarray. The response in terms of cutting jobs has been equally swift. The American-based airlines have already cut more than a hundred thousand jobs, while several European airlines have announced job losses of several thousand each.
In the face of this crisis, suddenly, airline company executives have rediscovered the hitherto discreet charms of state intervention. Throughout the developed world, and especially in the United States, there have been vociferous demands for government intervention and rescue packages for troubled airline companies. And suddenly the governments too, no longer seem so convinced of the advantages of deregulation and distancing.
In the US, for example, when executives gave out dire warnings of imminent bankruptcies, a bailout legislation was rushed through Congress by overwhelming margins and rapidly endorsed by the Bush administration. Along with $10 billion in loan guarantees, the airlines were awarded $5 billion in cash to cover their immediate losses. This amount is to be administered by an Air Transportation Stabilization Board, with enormous powers to decide which companies get how much money and on what terms.
In Europe the response has been more confused. When the Swiss national carrier Swissair was effectively grounded this week by creditors who refused to provide any more loans, there was a tremendous outcry among the Swiss public. The chief creditor who pulled the plug out for the airlines, the Swiss Bank UBS had its offices stormed, its employees receive death threats, and its managers publicly insulted by the normally staid Swiss press. The government has had to step in with a bailout package that will allow the company to function for another month in the first instance. Similarly, in Belgium, the carrier Sabena (which is still minority share owned by the Belgian government) has been temporarily rescued by the government.
The most extreme example comes from New Zealand, whose government has just announced plans to renationalise the national airline Air New Zealand, just 12 years after it was enthusiastically privatised. The government is to take an 83 per cent stake in the company, as part of a rescue package that will also involve a large injection of new capital to resolve its current financial troubles. Significantly, no further capital is to be sought from either of the current owners, Singapore International Airlines or Brierley Investments, both of which are widely blamed for Air New Zealand's recent woes.
Why is there this sudden revival of state intervention in the airline industry, and why is there such wide public backing for it ? It would be easy to see this as simply another example of governments moving in to protect private profits, especially given the political voice and lobbying power of these large companies. But there are other reasons for the extensive public support for such moves. It was openly stated in Switzerland, for example, that quite apart from the blow to national pride and all that, there would be a huge loss of services consequent upon reduction of flights to and from Swiss destinations, and problems of passengers resulting from the fact that other airlines simply would not be as concerned with cross-subsidisation to ensure benefits to citizens. In addition, of course, there are all the linkage effects of such air services, in terms of trade and tourism facilities and their employment effects.
The basic reason for public intervention in this industry – as indeed in many others – is the presence of externalities, that is in the fact that the private rate of return on all or some activities is different from the social rate of return. Thus, for example, even in India the private airlines typically fly the highly profitable inter-metropolitan routes or those which link major tourist or business centres, and simply ignore others. If only private airlines were relied upon, many parts of the country would simply be unconnected by air, regardless of the other needs for such services.
Public ownership of airlines allows such a company to cross-subsidise the less profitable but socially desirable routes with through the more profitable ones – but private companies would simply tend to settle for more profit, in the absence of strictly enforced regulation or other incentives. It is interesting that a period of crisis has served to clarify the matter even among consumers in developed countries.
It turns out that the airline industry may not be alone in relying heavily on government intervention to survive. The insurance industry has also been adversely affected, and it has responded by effectively reducing its services. Immediately after September 11, insurers in US and Europe not only increased airlines' premium payments, but also cut their cover for third party war and terrorism liabilities to a maximum of $50 million per airline per event. They are now refusing to provide insurance cover for major sporting events such as the Olympics to be held in Athens. In consequence, many governments have effectively become the "insurer of last resort", providing some cover and liability for damage to both industries and events.
Of course, this is the role that governments traditionally played, of providing some protection to citizens in the face of disaster, and it was part of a social contract that saw this as a necessary concomitant of raising resources. All that was eroded in public perception by the privatising wave of the 1980s and 1990s, but it is remarkable to see how quickly that privatising paradigm can crack under pressure.
In India, unfortunately, we are usually about a decade behind the times in terms of economic policy "fashions". Thus we can have a government that can still talk bravely about increasing the pace and extent of privatisation, including of the national airline, even as the story that makes international rounds is of renationalisation. We may still escape the dubious and ironical experience of having to privatise our national assets for a song and then buy them back at vast expense in times of crisis.
But if we do manage to escape this fate, the credit would not go to the government which is currently attempting to instigate this very process. Instead, we would have to thank a combination of domestic social and political pressure, and peculiar and horrifying international events, if it helps us to avoid this denouement.
At the same time, it also became fashionable to decry "over-regulation" in the airline industry, and deregulation was touted as the best means to increase competition and lower air ticket prices for consumers. The more deregulated market of the United States was frequently held up as an example to Europe and other developed regions, of how deregulation could provide leaner, more efficient and therefore cheaper, flight services. (Of course, those who had to travel regularly on the US domestic flights with minimal and grudging service, old and rackety planes and casual safety procedures, realised that there was a definite downside to all this.) By the late 1990s, the skies over Europe too had been substantially deregulated, and most other developed countries in other regions were rapidly following suit.
Strange to say, these moves did not appear to make air travel all that much cheaper, more pleasant, or even safer. In fact, even though the volume of passenger traffic increased exponentially in the decade of the 1990s, these moves did not even make airline companies themselves more profitable. Most of the major international airlines have experienced quite significant financial problems in the course of the past five years, and by early this year the situation became quite acute. The airline industry was one of the worst afflicted by the world economic recession, in particular the slowdown of the US economy, with several carriers being close to breaking point.
And of course, the last month has been nightmarish for the industry. After September 11, the airlines have had to cope with drops in passenger traffic of up to 40 per cent, huge increases in insurance premia, and so on, all of which have thrown their fragile finances into almost complete disarray. The response in terms of cutting jobs has been equally swift. The American-based airlines have already cut more than a hundred thousand jobs, while several European airlines have announced job losses of several thousand each.
In the face of this crisis, suddenly, airline company executives have rediscovered the hitherto discreet charms of state intervention. Throughout the developed world, and especially in the United States, there have been vociferous demands for government intervention and rescue packages for troubled airline companies. And suddenly the governments too, no longer seem so convinced of the advantages of deregulation and distancing.
In the US, for example, when executives gave out dire warnings of imminent bankruptcies, a bailout legislation was rushed through Congress by overwhelming margins and rapidly endorsed by the Bush administration. Along with $10 billion in loan guarantees, the airlines were awarded $5 billion in cash to cover their immediate losses. This amount is to be administered by an Air Transportation Stabilization Board, with enormous powers to decide which companies get how much money and on what terms.
In Europe the response has been more confused. When the Swiss national carrier Swissair was effectively grounded this week by creditors who refused to provide any more loans, there was a tremendous outcry among the Swiss public. The chief creditor who pulled the plug out for the airlines, the Swiss Bank UBS had its offices stormed, its employees receive death threats, and its managers publicly insulted by the normally staid Swiss press. The government has had to step in with a bailout package that will allow the company to function for another month in the first instance. Similarly, in Belgium, the carrier Sabena (which is still minority share owned by the Belgian government) has been temporarily rescued by the government.
The most extreme example comes from New Zealand, whose government has just announced plans to renationalise the national airline Air New Zealand, just 12 years after it was enthusiastically privatised. The government is to take an 83 per cent stake in the company, as part of a rescue package that will also involve a large injection of new capital to resolve its current financial troubles. Significantly, no further capital is to be sought from either of the current owners, Singapore International Airlines or Brierley Investments, both of which are widely blamed for Air New Zealand's recent woes.
Why is there this sudden revival of state intervention in the airline industry, and why is there such wide public backing for it ? It would be easy to see this as simply another example of governments moving in to protect private profits, especially given the political voice and lobbying power of these large companies. But there are other reasons for the extensive public support for such moves. It was openly stated in Switzerland, for example, that quite apart from the blow to national pride and all that, there would be a huge loss of services consequent upon reduction of flights to and from Swiss destinations, and problems of passengers resulting from the fact that other airlines simply would not be as concerned with cross-subsidisation to ensure benefits to citizens. In addition, of course, there are all the linkage effects of such air services, in terms of trade and tourism facilities and their employment effects.
The basic reason for public intervention in this industry – as indeed in many others – is the presence of externalities, that is in the fact that the private rate of return on all or some activities is different from the social rate of return. Thus, for example, even in India the private airlines typically fly the highly profitable inter-metropolitan routes or those which link major tourist or business centres, and simply ignore others. If only private airlines were relied upon, many parts of the country would simply be unconnected by air, regardless of the other needs for such services.
Public ownership of airlines allows such a company to cross-subsidise the less profitable but socially desirable routes with through the more profitable ones – but private companies would simply tend to settle for more profit, in the absence of strictly enforced regulation or other incentives. It is interesting that a period of crisis has served to clarify the matter even among consumers in developed countries.
It turns out that the airline industry may not be alone in relying heavily on government intervention to survive. The insurance industry has also been adversely affected, and it has responded by effectively reducing its services. Immediately after September 11, insurers in US and Europe not only increased airlines' premium payments, but also cut their cover for third party war and terrorism liabilities to a maximum of $50 million per airline per event. They are now refusing to provide insurance cover for major sporting events such as the Olympics to be held in Athens. In consequence, many governments have effectively become the "insurer of last resort", providing some cover and liability for damage to both industries and events.
Of course, this is the role that governments traditionally played, of providing some protection to citizens in the face of disaster, and it was part of a social contract that saw this as a necessary concomitant of raising resources. All that was eroded in public perception by the privatising wave of the 1980s and 1990s, but it is remarkable to see how quickly that privatising paradigm can crack under pressure.
In India, unfortunately, we are usually about a decade behind the times in terms of economic policy "fashions". Thus we can have a government that can still talk bravely about increasing the pace and extent of privatisation, including of the national airline, even as the story that makes international rounds is of renationalisation. We may still escape the dubious and ironical experience of having to privatise our national assets for a song and then buy them back at vast expense in times of crisis.
But if we do manage to escape this fate, the credit would not go to the government which is currently attempting to instigate this very process. Instead, we would have to thank a combination of domestic social and political pressure, and peculiar and horrifying international events, if it helps us to avoid this denouement.
© MACROSCAN 2001