AAA Submission Attachment 3 REPORT The Impact of Airport Charges on Airfares PREPARED FOR Australian Airports Association PREPARED BY InterVISTAS Consulting Inc. 2018 Executive Summary Aviation is an important sector of the Australian economy, given Australia’s geography (long distances between many of its population centres), and its reliance on global trade and tourism. Since air transport is of critical importance to the Australian economy, a key government objective is to ensure air transportation is well-positioned to deliver services in an efficient and affordable manner. This study addresses the question of the response of passengers to changes in airport charges. This analysis focuses on how changes, rather than levels, ultimately impact airfares and hence traffic. Decreases in airport charges do not necessarily equate to savings for consumers through lower airfares, and increases in airport charges do not necessarily mean higher airfares and hence lower demand. InterVISTAS developed an all-in fare model to estimate the impact of airport charges on airline fares. The use of an average “all-in” airfare rather than use only the base fare is critical for assessing airport charges, as the all-in airfare is the basis on which the passengers actually makes their travel decision. The four key components are the base fare, ancillary charges from the airline (e.g., baggage fees, advanced seat selection, etc.), government taxes & charges, and airport charges. We also utilize average base fares paid by Australian travellers over the course of a year, rather than fares in specific fare classes (such as full fare economy and lowest available fare) on one day in a month. This better reflects what is actually being paid by all travellers, rather than a handful of travellers on specific fares and dates. In measuring airport charges, there is a complicating factor, given the move towards commercial agreements in Australia. Airlines generally negotiate airport charges which are lower than the published rates posted by airports. To deal with this, we adjust the published rates downward based on the average actual discount observed at nine of the ten major Australian airports.1 For domestic flights, the average discount on airport rates is now 24%, and it is 10% for international flights. Figure E-1 Discounting at Australian Airports Source: Data received from Australian Airports Association 1 It should also be noted that airlines, when reporting their costs typically include air navigation fees in with airport charges, which again overstates the amount they pay to airports. Impact of Airport Charges on Airfares - 2018 i In addition, our assessment of airport charges as a percentage of the all-in fare is based only on the charges of Australian airports and while we report the foreign airport charges paid on illustrative routes, they are not controllable by Australian policy. Australian airport charges represent about 8% of the average domestic Australian all-in airfare. On trans-Tasman services, airport charges represented about 7% of the average all-in airfare. On international services, airport charges also represented about 7% of the average all-in airfare. These percentages include an adjustment for discounting present at Australian airports and are exclusive of GST. Based on the demand elasticities of air travel with respect to airfare developed for IATA, this translates into a price elasticity of demand with respect to airport charges of a range between -0.11 and -0.14. These are low price elasticities: changes to airport charges will have a relatively limited impact on traffic volumes – e.g., a 5% increase in airport charges would lead to a traffic decline of only 0.6%; and a 10% increase in airport charges would lead to a decline of traffic of about 1.2%. It should be noted that these are theoretically expected responses if the air carriers were to pass through the entire cost increase (or cost decrease) to the passengers and therefore likely portray the maximum impact. In practice, there has been mixed responses from air carriers to changes in input costs. Airlines do not always pass through increases in costs to passengers, nor do they necessarily pass through savings in the form of reduced airfares. There are a number of reasons the theoretically expected response of the air carriers is highly likely to overstate the actual impact of an increase in airport charges on passenger traffic. These include the airline’s extensive use of price discrimination of their own services, incentive airport charges, the use of commercial contracts, and common airline pricing among routes. Based on the case studies presented, there are a variety of outcomes in response to increased airport charges. In some cases, increases had a limited negative impact (Toronto), in others, the impact was more significant (e.g., Osaka) although the Osaka increase in fees was timed with a major Asian financial crisis. Where airport charges in Australia increased around the time of the Productivity Commission’s 2002 review, there was no discernible impact on demand for air travel. The case studies also show that even when airlines react to increases in airport charges in the short- run by reducing the number of services offered, eventually traffic levels tend to recover. Airlines and passengers adjust to the new prices, but the fundamentals that drove growth in the past tend to reassert themselves. Carriers re-establish service or new carriers enter the market with replacement capacity. Historically increased charges are often linked to capacity expansion which is necessary to meet demand which by facilitating competition may put downward pressure on fares as well. In cases where increases in airport charges were related to capacity expansions, the airlines’ operating and customer service costs resulting from congestion may decline. As capacity expansions are necessary to accommodate growth, and to facilitate competition between airlines, the net effect may be to support ongoing demand growth and a reduction, rather than increase, in airfares. Impact of Airport Charges on Airfares - 2018 ii Contents Executive Summary ....................................................................................................... i 1 Introduction ............................................................................................................ 5 1.1 Airport Charges and Consumer Response .................................................................... 5 1.2 Objective of this Report .................................................................................................. 6 1.3 Outline ............................................................................................................................ 6 Part I: Airfares ............................................................................................................... 7 2 The Components of Australian Airfares ............................................................... 8 2.1 The All-In Air Fare Should be the Basis for Analysis ..................................................... 8 2.2 Base Airfare.................................................................................................................... 8 2.3 Fuel Surcharges ............................................................................................................. 9 2.4 Ancillary Airline Charges ................................................................................................ 9 2.5 Taxes & Government Charges ..................................................................................... 14 2.6 Airport Aeronautical Charges ....................................................................................... 15 2.7 A Comment on Terminal Navigation and Aircraft Rescue & Firefighting ..................... 15 3 Trends in Base Airfares ....................................................................................... 16 3.1 Bureau of Infrastructure, Transport and Regional Economics (BITRE) airfare index .. 16 3.2 Using Average Airfares ................................................................................................ 17 3.3 Trends in Average Fares .............................................................................................. 18 4 Ancillary and Airport Revenue Trends ............................................................... 21 4.1 Trends in Airline Ancillary Charges .............................................................................. 21 4.2 Change in Airport Aeronautical Revenue ..................................................................... 24 5 Assessing Airport Charges ................................................................................. 27 5.1 Introduction: Choosing the Airport Charges to Use for Comparison to Airfares .......... 27 5.2 Trends in Australian Airport Departure Fees per Passenger (Rack Rates) ................. 27 5.3 Public Rack Rates ........................................................................................................ 29 5.4 Airline Add-on Fees for Airport Charges ...................................................................... 30 5.5 Actual Airport Fees Paid by Airlines ............................................................................. 30 5.6 An Example Comparison of Rack Rates, Airline Charges on Tickets and Actual Fee Paid by Airline ....................................................................................................................... 31 5.7