GOING the DISTANCE Franchir Le Fil D'arrivee
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Canadian Transportation Research Forum i.e Groupe de Recherches sur les ransports u Canada GOING THE DISTANCE Franchir le fil d'arrivee PROCEEDINGS of the 29th vo- Annual Meeting rp, ‘Cq. .110 ACTES de la 29ieme Conference annuelle 316 A Black Box Approach To The Airline Mess BY ALEX PHILLIPS • Canada's failing airline deregulation policy finally hit the fan when the Federal Conservative Government realized it had to give Canadian Airlines a $50 million loan guarantee and Terence Corcoran of the Globe and Mail proclaimed in his column of November 25th, 1992 entitled Ottawa's Flight To Nowhere that "The federal government is caught in a business-political- policy-economic mess of almost indescribable complexity." Mr. Corcoran used similar language in his column of February 2nd, 1993, This Is No Way To Set Airline Policy, to suggest that the future of the Canadian airline industry would depend on the outcome of a "murky proceeding before the Competition Tribunal over the Gemini computer reservation system" involving a "knee deep load of legal, economic, business and political claims from all sides" where "most of the evidence will be beyond average human comprehension". In my view, the current financial and competition policy mess in the Canadian airline industry may indeed be complex but it is not beyond average human comprehension. The current airline mess is a predictable result of adopting a flawed airline deregulation policy from the United States coupled with a reluctance to strictly enforce Canadian competition laws when the deregulation policy was not only failing to achieve a truly competitive marketplace but was effectively resulting in anticompetitive conduct among rival airlines. * Alex Phillips is a transport economist and lawyer based in Victoria and a member of the B.C., Manitoba and N.W.T. Law Societies. He is a former transport law professor at the University of Manitoba and wrote his Master of Laws degree paper on U.S. airline deregulation and its effects on international aviation competition at the London School of Economics in 1985. 1 A.C. Phillips 317 As a regulatory tribunal with independent discretion to apply existing competition laws, the Competition Tribunal, was recently called upon by the Bureau of Competition Policy within the Department of Consumer and Corporate Affairs to help determine what the limits of lawful competition should be within a deregulated Canadian airline industry particularly given the shared use of computer reservations systems. Calling on the Competition Tribunal was a positive first step in fixing the airline mess but this should not be confused with the Minister of Transport's continuing responsibility to establish a workable airline policy. Indeed, the very existence of the airline mess itself suggests that the former Conservative Government's "flight of fancy" with airline deregulation has led to a near "crash and burn" scenario for the Canadian airline industry and air travellers alike. Consequently, in order to assist our new Liberal Government, I suggest we replay Canada's "deregulation" flight recorder now and try to use a "black box approach" to identify the likely causes of the current airline mess. Intended Destination and Alternative Flight Plans To begin with, Canada's deregulation flight recorder indicates that even before a legislated U.S. style deregulation flight plan was finally adopted in July, 1985, the intended destination seemed clear enough. Canadians wanted adequate air service for their communities, the lowest possible air fares based on fair competition and efficient air carriers which would operate at a profit and generate a reasonable rate of return on invested capital so that they would remain financially viable. Indeed, many different flight plans had been discussed in the early 1980's in order to reach this destination. Transport Canada wanted continued regulation. The Economic Council of Canada wanted to adopt U.S. style airline deregulation. The House of Commons Standing Committee on Transport advocated liberalization of the existing regulatory framework. The former Air Transport Committee of the Canadian Transport Commission wanted limited reforms that would not substantially restrict its regulatory powers. 2 A.C. Phillips 318 Regulatory Framework Overhaul In May, 1984, Liberal Transport Minister Lloyd Axworthy adopted a liberalization flight plan known as The New Canadian Air Policy based on the recommendations of the Standing Committee and the first stage of U.S. airline deregulation. He also proposed we take a liberalization test flight before we imported the entire U.S. deregulation model. In adopting a liberalization policy, Lloyd Axworthy recognized the consensus which emerged from the lengthy review process in the early 1980's that Canadians did not want to import a legislated U.S. deregulation model in its entirety. At the same time, he also recognized that the old regulatory air framework needed some initial overhaul work. The original regulatory air framework was inefficient and unreliable in helping us to reach our intended destination. Under this framework, the Air Transport Committee had their hands on independent regulatory controls to licence new commercial airlines, to authorize service on new routes and to control the level of air fares. The exercise of this regulatory discretion took into account Ministerial policy statements which included protecting the routes of Crown-owned Air Canada and promoting a regional air carrier policy. Under this regulated air framework, new competition for existing demand was restricted. There was virtually no price competition only service competition and regional carriers could not expand beyond defined geographical boundaries. Carriers tended to develop high cost linear non- stop route patterns and service levels. Carriers also had no incentive to reduce inflated costs associated with their service schedule because their regulated fares were based on covering their costs plus receiving an adequate rate of return. This regulatory air framework first began to crack in 1979. In that year, the Federal Government allowed Canadian Pacific Airlines to compete to a greater extent on a transcontinental basis with Air Canada. In addition, the regional boundaries defined under the regional air carrier policy were beginning to be overlooked by the Air Transport Committee when it granted new routes to the existing regional jet carriers. These initial moves to promote greater competition within the existing regulatory framework 3 A.C. Phillips 319 also coincided with the enactment of airline deregulation legislation in 1978 in the United States. New U.S. Deregulation Model Under U.S. deregulation legislation, the independent regulatory discretion of the Civil Aeronautics Board to licence carriers, grant new routes and set air fares was initially restricted during a liberalization period. Specifically, from 1978 to 1982, the CAB was required by the legislation to consider greater competition and the encouragement of entry as a major factor in the licencing of new carriers or the granting of new routes. Similarly from 1978 to 1983, all fares filed with the CAB were deemed to be approved provided the fares fell within a defined zone of reasonableness. The fare zone established a ceiling above which the CAB could rule that the fare was too high and amounted to unjust discrimination. It also established a fare floor below which the CAB could determine a fare to be too low or predatory in nature before the fares filed could become effective. In 1982, the CAB's control over licences and routes was abolished and any fit, willing and able U.S. carrier has since been free to enter any domestic U.S. airline market. In 1983, the CAB's control over fares and the reasonable fare zone concept was also abolished. Thereafter, carriers were free to set air fares at will and were only subject to antitrust laws prohibiting predatory pricing. In 1985, the CAB itself was abolished. Antitrust oversight was transferred to the U.S. Department of Justice. Regulatory control over international air transport licences, routes and fares was transferred to the U.S. Department of Transportation. Liberalization Flight Plan Lloyd Axworthy's liberalization flight plan of May, 1984 incorporated similar provisions to the initial liberalization provisions of the U.S. deregulation legislation. He maintained independent regulatory discretion for the ATC but at the same time, his liberalization policy statement asked the ATC to take into account competition as the primary factor in exercising its licencing discretion. He also proposed flexible fare zones within which fares should be deemed by the ATC to be just and reasonable. In doing so, he maintained the independent regulatory discretion given to the ATC to deal with both high discriminatory fares as well as low predatory fares before these fares would become effective. 4 A.C. Phillips 320 The ATC copilots felt that this liberalization flight plan took away too much of their independence to regulate. While there appeared to be a struggle for control of the cockpit behind the scenes, the election- of the Conservatives in September 1984 effectively grounded Mr. Axworthy and put any debate over the extent of regulatory independence to rest. Switch To Autopilot Within one year, the Conservative navigators filed a fully legislated U.S. style deregulation flight plan. With it came the abolition of the Air Transport Committee copilots and their exercise of independent regulatory discretion. There would be one supreme commander - the Minister of Transport - who now had the power to issue binding policy directives to be followed by a new agency called the National Transportation Agency. The flight plan would also rely on free market forces to achieve greater competition as the U.S. legislation had done since 1982. The initial Conservative commander in charge of importing a U.S. style deregulation flight plan and modifying it for use in Canada was then Transport Minister Don Mazankowski. His White Paper entitled "Freedom To Move" in July, 1985 served as the framework for the transport deregulation legislative reform package enacted in January, 1988.