Fuel Prices and Airfare
“It has been our position all along that fares are not cost-driven. They are demand-driven.”
The above quote from United Airlines spokeswoman Megan McCarthy has been the golden rule of airfare pricing since oil prices have fallen.
Although fuel costs, the single greatest expense to airlines, have fallen, their fare rates have remained steady. In fact, CNN reports that despite combined savings of $3.4 billion in the first three months of the year, average fare costs have only fallen by 66 cents. Travelers are wondering why.
There is essentially one major argument as to why fares have not been reduced in response to the decreasing cost of inputs for the airline industry. As the quote states above, the explanation is simply that airline fares are demand-driven. Demand for travel by air in the U.S. is strong, which explains why customers have not stopped flying despite steady ticket prices. Four major U.S. airlines account for the vast majority of air travel in the country: American-U.S. Airways, Southwest, Delta and United. These four airlines control 87% of the domestic market, and they have managed to fill 81% of their seats over the past year. TIME discussed a report from Oilprice.com, mentioning how low competition enables these four airlines to set prices at a certain level without the risk of competitors undercutting them.
Airlines for America, the industry’s trade association, has defended itself by noting that the profit margin for airlines is below the majority of corporate America. According to spokeswoman Victoria Day, 85% of the profits from the airlines are cycled back into the company to improve the customer experience. This comes in the form of improving features on flights and in terminals, purchasing new aircrafts and expanding routes. For example, Southwest has announced that next year it will be introducing new seats in its Boeing 737 models. These seats will be slightly wider and will offer passengers more legroom and personal storage space under their seats. In addition, the new seats will be lighter, to help improve fuel efficiency.
The four major U.S. airlines have indicated that as long as demand remains high, the added profits from low fuel prices will be cycled back to shareholders rather than being used to lower ticket prices. After Southwest announced in January that it is estimated to save $1.7 billion on fuel in 2015, its stock rose 8%. In the final quarter of 2014, according to Reuters, Southwest bought back $200 million in stock, Delta repurchased $500 million, and United repurchased $100 million.
So, while airlines may be reaping benefits from low oil prices, if competition remains insignificant and the demand for air travel in an increasingly globalized world continues, the major players will have no incentive to cut ticket prices.

  • Richard

    I agree. A wise businessman in the Caribbean named Sir Kyffin Simpson always said that the key to success is progression and humility, and clearly he’s done very well for himself as a self made man!

  • John Andrews

    The Airgain IPO launches this week, and they’re a one-brand company.

    Some investors don’t think it’s a good stock though:

    http://seekingalpha.com/article/3997291-risky-signals-antenna-maker-airgain-launches-ipo

  • Cincinnati World Cinema

    Well said, Joe, and worth rereading on a regular basis! Another advantage of small-to-midsize city living is pace and competition. Living in NYC, LA and SF entailed a hectic pace, hallmarked by capital S striving, as one realized there were a ton of others doing what I do. Spending so much time in one’s car in SoCal meant much less time for quality pursuits and pleasures. A smaller pond with relaxed pace allows one to savor life and special moments.


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