- Email: [email protected]
Airport slot auctions: desirable or feasible?
Utilities Policy 11 (2003) 53–57 www.elsevier.com/locate/utilpol
Airport slot auctions: desirable or feasible? A. Sentance ∗ British Airways plc, Waterside, Harmondsworth, UB7 0GB, UK
Abstract Slot auctions have been promoted as a means of increasing competition in the airline industry and making more efficient use of scarce airport capacity. On both counts, the arguments are flawed. If there are competition concerns about the development of huband-spoke network airlines, there are adequate competition remedies already available to deal with this issue. On efficiency grounds, the extension of secondary slot trading - which is compatible with the current slot allocation regime - should allow the benefits of a market-oriented slot regime to be delivered without the upheaval created by undermining the well-established international principle of ‘grandfather rights’. Auctioning slots generated by new infrastructure investment could have some merit if the proceeds are ploughed back to offset the environmental costs of airport expansion. However, there are other mechanisms available to ensure that the costs of airport expansion properly reflect environmental externalities. It is difficult to see a compelling case for developing slot auctions - which are likely to disrupt the current international slot allocation regime - purely to deal with these environmental issues. 2003 Elsevier Science Ltd. All rights reserved. Keywords: Slot allocation; Slot trading; Auctions; Airport infrastructure; Aviation industry; Airline competition
1. Introduction Based on the experience of the mobile telecoms industry with 3G licence auctions, industry players will look at proposals for auctions of access to scarce infrastructure with some alarm. For a heavily indebted company in a financially poorly performing industry - which is the current position of British Airways - perhaps horror is a more appropriate response! The idea of auctioning airport slots is not new. It was floated in a study sponsored by the US government in 1979 and various academic articles have discussed ways in which such an auction might be organised (see, for example, Rassenti et al. (1982)). The proposal has received increased attention in the UK following a government-sponsored report by the consultancy firm DotEcon, published in 2001 (DotEcon, 2001).1 Industry players, including British Airways, are sceptical about Tel./fax: +1-020-8738-6813. E-mail address: [email protected] (A. Sentance). 1 Auctioning airport slots: A report for HM Treasury and the Department of the Environment Transport and the Regions, DotEcon Ltd, January 2001.
both the practical feasibility and the theoretical advantages which are claimed for slot auctions. That is not to reject the benefits of slot trading, which can be achieved by the establishment of an efficient secondary market in which slot-holders willingly engage in slot exchanges, which may involve a financial transaction. That market currently exists in the UK and it has helped to facilitate a more efficient slot allocation at congested airports, notably London Heathrow. However, the advocates of slot auctions wish to go far beyond this. They argue that the primary access to airport slots can be governed by market processes through an auction. In discussing this issue, it is helpful to separate out two separate issues:
1. Auctioning access to existing airport capacity; and 2. Auctioning access to new capacity.
∗
In this article, I will argue that both proposals have serious defects, both in terms of the perverse incentives they might generate and the practical problems that could result.
0957-1787/03/$ - see front matter 2003 Elsevier Science Ltd. All rights reserved. doi:10.1016/S0957-1787(02)00058-9
54
A. Sentance / Utilities Policy 11 (2003) 53–57
2. The current slot regime The current regime for airport slot allocation has grown up to meet two needs - efficient co-ordination of airline schedules and the need to allocate capacity at congested airports in a fair and efficient manner. The slot allocation process is not controlled by airports, but follows guidelines laid down by the International Air Transport Association (IATA). Within the European Union, slot allocation is also governed by a regulation based on IATA guidelines - European Regulation 95/93. (A draft proposal to update this regulation is currently under consideration within the EU.) There are four key features of the IATA slot regime, as currently constituted and embodied in European law. 1. Schedule co-ordination conferences. Since 1947, airlines have met regularly to discuss schedules planned for the next season.2, in order to improve interline connections and handling arrangements. Through primarily bilateral discussions, they voluntarily adjusted schedules where it was in their mutual interest. With the onset of congestion during some periods of the day at a few major airports in the early 1960s, the scope of the schedule discussions was broadened to cover the adjustments needed to reduce anticipated delays to an acceptable level. These conferences, in which any airline may participate if registered in a State eligible for membership in ICAO, are held twice each year about 4 months before the start of the summer and winter scheduling seasons to be discussed. Airport capacity limitations applicable for the season under discussion are declared before the Conferences by the appropriate authorities in consultation with airlines. 2. Grandfather rights. The traditional, IATA-based, system of slot allocation acknowledges an incumbent airline’s ‘grandfather right’ to a particular slot time at an airport where that slot was used in the previous equivalent season. These grandfather rights continue until an airline ceases to utilise a slot or surrenders it back to the Scheduling Committee coordinator. A ‘use it or lose it’ rule is applied to determine whether a slot should be surrendered, with the current rule requiring an airline to achieve 80% usage to retain grandfather rights to its slot for the next season. 3. The new-entrant rule. One criticism of a regime based on ‘grandfather rights’ is that it gives too much power to incumbents relative to new entrants. To address this issue, a ‘new entrant rule’ was added to the IATA guidelines in the early 1990s and embodied in the
2
The calendar year is divided into two seasons for airline scheduling purposes: Summer (April-October) and Winter (NovemberMarch).
European slot regulation. After historical slots have been allocated at Conferences, 50% of the remaining slots available are first allocated to new entrants. The definition of new entrant status for these purposes is one of the issues currently being reviewed by the European authorities with the draft regulation proposing a broadening of the qualifying criteria. 4. Independent slot co-ordination. Slots which are not ‘grandfathered’ are allocated from the slot ‘pool’ by the Scheduling Committee coordinator in accordance with priorities set out in the IATA guidelines in a non-discriminatory manner. The independence of the slot co-ordinator is clearly a key element in ensuring that the slot allocation process is seen to be fair and impartial. In the UK, slot allocation is conducted by Airport Coordination Limited (ACL), which is a limited company jointly owned by 11 UK airlines, but operating independently of its owners on a basis of strict neutrality between airlines. The IATA slot allocation system is clearly compatible with slot trading, in that the slot exchanges that take place within the system can be accompanied by monetary transfer. This allows airlines which can extract the most commercial value from slots to be net purchasers from carriers which are less commercially successful. Purchasing airlines need to acquire slots from the coordinator in order to make such an exchange but even at a highly congested airport, such as London Heathrow, some slots are always available out of the peak periods. These slots can be obtained from the co-ordinator and exchanged for slots with more suitable timings held by another airline - with an accompanying monetary payment - and the surplus (off-peak) slots can then be returned to the pool. One of the contentious issues in the debate over a revision of the European slot regulation is whether this process - of acquiring slots from the pool simply to effect a trade - should be outlawed. It is the view of British Airways and the UK government that it should not, as it is a critical mechanism facilitating secondary trading and hence promoting a more efficient allocation of slots.
3. Auctioning access to existing airport capacity Supporters of slot auctions generally argue that the current IATA regime - in which primary slots are initially allocated and trading only takes place at a later stage - stifles competition and allows an inefficient allocation of slot values to persist. There is also a belief by some regulatory authorities that the slot regime allows airlines to capture ‘economic rents’ at congested airports which could be used to incentivise investment. (See CAA (2002) for a statement of this argument and British Airways (2002) for a rebuttal.) The impact of slot auc-
A. Sentance / Utilities Policy 11 (2003) 53–57
tions on dynamic efficiency - how a slot auction might affect investment incentives - as well as static efficiency therefore needs to be considered. The most radical proposals involve an attack on grandfather rights, creating a regime in which airport slots are time-limited and re-auctioned on a regular basis. For example, the DotEcon report commissioned by the UK government, proposed that slot usage rights should be limited to between 3 and 6 years, so a third to a sixth of airport slots could be auctioned each year. Virgin Atlantic, one of the few - if not the only - airline supporters of slot auctions has proposed a period of tenure of 10 years. However long the period, auctioning access to existing airport capacity requires a shift to a time-limited slot regime in which slots are regularly reclaimed from their users after a specified period. The traditional airline defence against such proposals is that the system of grandfather rights allows for continuity of service to the public and provides the degree of stability and continuity needed for planning and longterm investment by airlines and airports. IATA also argue that it is an equitable arrangement and that newcomers also get to appreciate it as the ‘child’ becomes a ‘grandfather’ in 1 year. It is also very clear that no alternative system of precedence has so far been proposed which would gain as wide acceptance (IATA, 2002). However, if we set aside these practical problems for a moment, what would be the justification for a radical move to time-limited and reclaimable slots? One concern which is frequently raised is the observation that at most major airport hubs, a substantial proportion of the takeoff and landing slots are held by a network airline using the airport as a major base. The DotEcon report argues that “... effective competition in air service markets depends on the ability of mid-size carriers (and alliances) to expand ... to challenge large, established carriers....The small number of slots in the pool available to established operators constitutes a substantial barrier to their expansion and, therefore, a constraint on competition.” According to this argument, therefore, time-limiting and auctioning slots is a competition remedy for hub dominance at major airports. However, it is not clear that this is an effective and appropriate remedy, even if it is accepted that hub dominance is a problem. The larger the share of slots that the main network carrier holds at its hub, the more cautious new entrants will be about challenging its position. (This is one of the reasons that airlines are more keen to acquire slots at London Heathrow, where BA has less than 40% of the slots, than at Paris CDG or Frankfurt where Air France and Lufthansa have 55-60%, respectively.) In these circumstances, the incumbent may regularly outbid new entrants for slots and reinforce its position through an auction. This leads the authors of the DotEcon report to
55
propose that limits may need to be imposed on slot-holdings to prevent abuse of market power. Even if we agree it is a good idea to limit slot-holdings of major network carriers at their major hubs, this can be done under the current regime. For example, the Competition Commission imposed a limit on the proportion of Gatwick peak-hour slots which could be held by British Airways as a condition for BA’s acquisition of CityFlyer Express in 1999. However, any limits on slot-holdings must take into account the individual circumstances of the airport because there are also consumer benefits which arise from the development of a hub-and-spoke airline network. Network airlines compete aggressively with each other for transfer passengers to connect over their hubs and such connecting routings offer alternative choices to passengers when there are either no direct services on the route they wish to take or the choice of direct services is limited. Because of these network benefits, competition authorities have been cautious about imposing blanket limits on the share of slots held by an airline at a hub airport. So on competition grounds, the case for slot auctions is not made. If we are concerned about hub dominance, competition authorities can act within the existing slot regime. The fact that they have generally chosen not to do so reflects the fact that there are very difficult judgements to be made, balancing the benefits of network formation against any perceived constraint on direct competition. Like other competition issues, this needs to be considered on a case-by-case basis. A blanket remedy does not appear to be appropriate, and even if it were, it is far from clear that a slot auction is the best instrument available. The economic case for auctioning slots therefore rests on the efficiency benefits which might result. However, as we have seen, the current slot allocation mechanism seeks to promote efficiency in a number of different ways. First, it aims to achieve effective schedule co-ordination as well as allocating scarce capacity. It is important not to lose sight of this point, as the efficient operation of airlines and airports are important considerations as well as the allocation of scarce airport capacity. Second, the ‘use it or lose it’ rule is already an effective discipline on airlines to utilise slots productively or release them back to the pool. Though it is sometimes alleged that airlines ‘slot-sit’ by using small aircraft to retain a slot at relatively low cost, the low margins generally earned in the airline industry provide quite a strong discipline to avoid such behaviour if it is uneconomic. In general, airlines release slots if they do not need them - British Airways has recently released a large number of slots at London Gatwick as it has reduced its operations there, even though this has allowed EasyJet to build up its share of services at the airport to nearly 10% in just a few seasons. Third, more efficient use of scarce of capacity can be
56
A. Sentance / Utilities Policy 11 (2003) 53–57
achieved through secondary trading, without challenging grandfather rights and generating a total upheaval of the slot allocation mechanism. The continuation and development of secondary trading is supported by airports (ACI, 2001) as well as many airlines, including British Airways. It is wholly compatible with the current IATA/EU regime, whereas an auction requires a wholesale reassessment: limits on grandfather rights, reclaiming and re-auctioning slots, and establishing a principle of effectively paying for slots rather than having them allocated. There is no broad international support for this approach and applying it unilaterally in the UK would expose UK-based airlines to retaliation from vexed aviation authorities at the other end of the route and would probably result in a sustained legal challenge.
4. Auctions for access to new capacity Many of the same arguments above apply to the proposal to auction access to new capacity if, for example, a new runway were to be built at a London airport. However, there are two important differences which would result from auctioning access to new capacity which suggest that it merits separate attention. First, when new capacity is being generated, there is no need to timelimit or reclaim slots in order to have an auction. So an auction of new capacity could be compatible with grandfather rights, reducing some of the objections cited above. Second, an auction of a large tranche of new slots could help deal with some of the perceived problems of providing new airport capacity - generating adequate financial returns and compensating for disturbance and other environmental problems. As the UK government has embarked on a major consultation on the provision of new airport capacity (see Department for Transport, 2002), this issue is very timely. At first sight, it might seem that one benefit of auctioning newly generated airport slots would be to provide a price signal to airports to invest in new capacity. Excess demand for airport capacity would mean there was substantial value in generating new slots. Would it not make sense to allow airports to auction the slots which they create by investment in new infrastructure hence increasing their incentive to add capacity? The problem with this approach would be that the value of slots would be increased by restricting capacity growth, with the result that airports had an incentive to ensure that infrastructure development lagged behind demand, to maintain the scarcity value of new slots. This incentive structure is unlikely to be socially optimal. This incentive to restrict new capacity development could be blunted by ensuring that the proceeds of slot auctions were included in the ‘single till’ - the mechanism by which excess airport profits are ploughed back to benefit users (which forms the basis of airport price
regulation in the UK). However, containing the scope for monopoly abuse in this way would also undermine the value of the slot auction as a price signalling mechanism (as airports would not benefit from adding new capacity - the slot values would be passed back to users in the form of lower airport charges). The conclusion would appear to be that there is little merit in pursuing a slot auction if the airports are to be the financial beneficiary. What if government was to benefit from the proceeds of the auction? Environmental groups have argued for this as a means of increasing the cost of aviation to reflect its environmental impact, with the government effectively extracting a tax through the proceeds of the auction. However, if there is a view that taxes on aviation need to increase to cover external environmental costs, it would be much less disruptive and more transparent to pursue this objective by normal tax-raising mechanisms. In the UK, Airport Passenger Duty is already levied as a special tax on air travel and it is estimated to broadly cover the ‘external costs’ generated by the aviation industry (DETR, 2000). The government has a major influence on airport capacity expansion plans and it would also be dangerous to allow them to extract value from rising congestion (in the form of rising slot values), just as airports should not be allowed to benefit from restricting capacity. A theoretically attractive idea is to devote the proceeds of a slot auction to an environmental fund, which is then available to pay for the compensation and mitigation of the effects of airport expansion. This could be an efficient way of pricing for the externalities of airport development, in that the airport would have an incentive to expand up to the point at which the residual slot values equalled the cost of dealing with the external costs of expansion. The effect would be to internalise the external environmental costs of expansion through a slot auction. If the financial benefits of the slot auction exceeded the external costs of the expansion, the losers could be compensated. If not, the expansion would not be able to go ahead. However, this approach would only work effectively if the losers from airport expansion could be equitably and efficiently compensated. It is not clear that this is possible and if the distribution mechanism is wrong, the market signals will not work effectively.
5. Conclusion It is hard to avoid the conclusion that the benefits of slot auctions do not appear to justify the costs and that alternative mechanisms would be more likely to deliver the benefits claimed for an auction. If competition at major hub airports is the concern, the competition authorities already have adequate remedies available to them.
A. Sentance / Utilities Policy 11 (2003) 53–57
The fact that they are reluctant to deploy them reflects the genuinely difficult balance that needs to be struck between promoting route competition and realising the benefits of airline networks. Efficient use of capacity can be achieved through secondary slot trading and does not need primary auctions. The benefits of auctioning access to new capacity hinges greatly on how the proceeds are deployed. There appear to be problems in store if the government or the airport operator reap the benefits. Using the proceeds to compensate or mitigate the costs of airport expansion appears a more attractive option, but there may still be more efficient instruments available (eg an environmental ‘levy’ on expansion or an addition to airport charges to cover compensation and mitigation costs). For all these reasons, airport slot auctions are likely to remain a gleam in the theoretical economists eye rather than a serious policy proposition.
References ACI, 2001. Slot allocation: the airport perspective, Airports Council International Position Paper, 5 April 2001.
57
British Airways, 2002. Heathrow, Gatwick and Stansted Price Caps 2003-2008, Submission to the Competition Commission by British Airways, April 2002. CAA, 2002. Heathrow, Gatwick and Stansted Airport price caps, 20032008: CAA recommendations to the Competition Commission, Civil Aviation Authority, February 2002. Department for Transport, 2002. The Future Development of Air Transport in the United Kingdom: A National Consultation, July 2002. DETR, 2000. Valuing the external costs of aviation, Department of Environment, Transport and the Regions, December 2000. DotEcon, 2001. Auctioning airport slots: A report for HM Treasury and the Department of the Environment Transport and the Regions, DotEcon Ltd, January 2001. IATA, 2002. Scheduling services: About scheduling, International Air Transport Association website (www.iata.org/sked/about.htm). Rassenti, S.J., Smith, V.L., Bulfin, R.L., 1982. A combinatorial auction mechanism for airport time slot allocation. Bell Journal of Economics 13 (2), 402–417.
Airport slot auctions: desirable or feasible? A. Sentance ∗ British Airways plc, Waterside, Harmondsworth, UB7 0GB, UK
Abstract Slot auctions have been promoted as a means of increasing competition in the airline industry and making more efficient use of scarce airport capacity. On both counts, the arguments are flawed. If there are competition concerns about the development of huband-spoke network airlines, there are adequate competition remedies already available to deal with this issue. On efficiency grounds, the extension of secondary slot trading - which is compatible with the current slot allocation regime - should allow the benefits of a market-oriented slot regime to be delivered without the upheaval created by undermining the well-established international principle of ‘grandfather rights’. Auctioning slots generated by new infrastructure investment could have some merit if the proceeds are ploughed back to offset the environmental costs of airport expansion. However, there are other mechanisms available to ensure that the costs of airport expansion properly reflect environmental externalities. It is difficult to see a compelling case for developing slot auctions - which are likely to disrupt the current international slot allocation regime - purely to deal with these environmental issues. 2003 Elsevier Science Ltd. All rights reserved. Keywords: Slot allocation; Slot trading; Auctions; Airport infrastructure; Aviation industry; Airline competition
1. Introduction Based on the experience of the mobile telecoms industry with 3G licence auctions, industry players will look at proposals for auctions of access to scarce infrastructure with some alarm. For a heavily indebted company in a financially poorly performing industry - which is the current position of British Airways - perhaps horror is a more appropriate response! The idea of auctioning airport slots is not new. It was floated in a study sponsored by the US government in 1979 and various academic articles have discussed ways in which such an auction might be organised (see, for example, Rassenti et al. (1982)). The proposal has received increased attention in the UK following a government-sponsored report by the consultancy firm DotEcon, published in 2001 (DotEcon, 2001).1 Industry players, including British Airways, are sceptical about Tel./fax: +1-020-8738-6813. E-mail address: [email protected] (A. Sentance). 1 Auctioning airport slots: A report for HM Treasury and the Department of the Environment Transport and the Regions, DotEcon Ltd, January 2001.
both the practical feasibility and the theoretical advantages which are claimed for slot auctions. That is not to reject the benefits of slot trading, which can be achieved by the establishment of an efficient secondary market in which slot-holders willingly engage in slot exchanges, which may involve a financial transaction. That market currently exists in the UK and it has helped to facilitate a more efficient slot allocation at congested airports, notably London Heathrow. However, the advocates of slot auctions wish to go far beyond this. They argue that the primary access to airport slots can be governed by market processes through an auction. In discussing this issue, it is helpful to separate out two separate issues:
1. Auctioning access to existing airport capacity; and 2. Auctioning access to new capacity.
∗
In this article, I will argue that both proposals have serious defects, both in terms of the perverse incentives they might generate and the practical problems that could result.
0957-1787/03/$ - see front matter 2003 Elsevier Science Ltd. All rights reserved. doi:10.1016/S0957-1787(02)00058-9
54
A. Sentance / Utilities Policy 11 (2003) 53–57
2. The current slot regime The current regime for airport slot allocation has grown up to meet two needs - efficient co-ordination of airline schedules and the need to allocate capacity at congested airports in a fair and efficient manner. The slot allocation process is not controlled by airports, but follows guidelines laid down by the International Air Transport Association (IATA). Within the European Union, slot allocation is also governed by a regulation based on IATA guidelines - European Regulation 95/93. (A draft proposal to update this regulation is currently under consideration within the EU.) There are four key features of the IATA slot regime, as currently constituted and embodied in European law. 1. Schedule co-ordination conferences. Since 1947, airlines have met regularly to discuss schedules planned for the next season.2, in order to improve interline connections and handling arrangements. Through primarily bilateral discussions, they voluntarily adjusted schedules where it was in their mutual interest. With the onset of congestion during some periods of the day at a few major airports in the early 1960s, the scope of the schedule discussions was broadened to cover the adjustments needed to reduce anticipated delays to an acceptable level. These conferences, in which any airline may participate if registered in a State eligible for membership in ICAO, are held twice each year about 4 months before the start of the summer and winter scheduling seasons to be discussed. Airport capacity limitations applicable for the season under discussion are declared before the Conferences by the appropriate authorities in consultation with airlines. 2. Grandfather rights. The traditional, IATA-based, system of slot allocation acknowledges an incumbent airline’s ‘grandfather right’ to a particular slot time at an airport where that slot was used in the previous equivalent season. These grandfather rights continue until an airline ceases to utilise a slot or surrenders it back to the Scheduling Committee coordinator. A ‘use it or lose it’ rule is applied to determine whether a slot should be surrendered, with the current rule requiring an airline to achieve 80% usage to retain grandfather rights to its slot for the next season. 3. The new-entrant rule. One criticism of a regime based on ‘grandfather rights’ is that it gives too much power to incumbents relative to new entrants. To address this issue, a ‘new entrant rule’ was added to the IATA guidelines in the early 1990s and embodied in the
2
The calendar year is divided into two seasons for airline scheduling purposes: Summer (April-October) and Winter (NovemberMarch).
European slot regulation. After historical slots have been allocated at Conferences, 50% of the remaining slots available are first allocated to new entrants. The definition of new entrant status for these purposes is one of the issues currently being reviewed by the European authorities with the draft regulation proposing a broadening of the qualifying criteria. 4. Independent slot co-ordination. Slots which are not ‘grandfathered’ are allocated from the slot ‘pool’ by the Scheduling Committee coordinator in accordance with priorities set out in the IATA guidelines in a non-discriminatory manner. The independence of the slot co-ordinator is clearly a key element in ensuring that the slot allocation process is seen to be fair and impartial. In the UK, slot allocation is conducted by Airport Coordination Limited (ACL), which is a limited company jointly owned by 11 UK airlines, but operating independently of its owners on a basis of strict neutrality between airlines. The IATA slot allocation system is clearly compatible with slot trading, in that the slot exchanges that take place within the system can be accompanied by monetary transfer. This allows airlines which can extract the most commercial value from slots to be net purchasers from carriers which are less commercially successful. Purchasing airlines need to acquire slots from the coordinator in order to make such an exchange but even at a highly congested airport, such as London Heathrow, some slots are always available out of the peak periods. These slots can be obtained from the co-ordinator and exchanged for slots with more suitable timings held by another airline - with an accompanying monetary payment - and the surplus (off-peak) slots can then be returned to the pool. One of the contentious issues in the debate over a revision of the European slot regulation is whether this process - of acquiring slots from the pool simply to effect a trade - should be outlawed. It is the view of British Airways and the UK government that it should not, as it is a critical mechanism facilitating secondary trading and hence promoting a more efficient allocation of slots.
3. Auctioning access to existing airport capacity Supporters of slot auctions generally argue that the current IATA regime - in which primary slots are initially allocated and trading only takes place at a later stage - stifles competition and allows an inefficient allocation of slot values to persist. There is also a belief by some regulatory authorities that the slot regime allows airlines to capture ‘economic rents’ at congested airports which could be used to incentivise investment. (See CAA (2002) for a statement of this argument and British Airways (2002) for a rebuttal.) The impact of slot auc-
A. Sentance / Utilities Policy 11 (2003) 53–57
tions on dynamic efficiency - how a slot auction might affect investment incentives - as well as static efficiency therefore needs to be considered. The most radical proposals involve an attack on grandfather rights, creating a regime in which airport slots are time-limited and re-auctioned on a regular basis. For example, the DotEcon report commissioned by the UK government, proposed that slot usage rights should be limited to between 3 and 6 years, so a third to a sixth of airport slots could be auctioned each year. Virgin Atlantic, one of the few - if not the only - airline supporters of slot auctions has proposed a period of tenure of 10 years. However long the period, auctioning access to existing airport capacity requires a shift to a time-limited slot regime in which slots are regularly reclaimed from their users after a specified period. The traditional airline defence against such proposals is that the system of grandfather rights allows for continuity of service to the public and provides the degree of stability and continuity needed for planning and longterm investment by airlines and airports. IATA also argue that it is an equitable arrangement and that newcomers also get to appreciate it as the ‘child’ becomes a ‘grandfather’ in 1 year. It is also very clear that no alternative system of precedence has so far been proposed which would gain as wide acceptance (IATA, 2002). However, if we set aside these practical problems for a moment, what would be the justification for a radical move to time-limited and reclaimable slots? One concern which is frequently raised is the observation that at most major airport hubs, a substantial proportion of the takeoff and landing slots are held by a network airline using the airport as a major base. The DotEcon report argues that “... effective competition in air service markets depends on the ability of mid-size carriers (and alliances) to expand ... to challenge large, established carriers....The small number of slots in the pool available to established operators constitutes a substantial barrier to their expansion and, therefore, a constraint on competition.” According to this argument, therefore, time-limiting and auctioning slots is a competition remedy for hub dominance at major airports. However, it is not clear that this is an effective and appropriate remedy, even if it is accepted that hub dominance is a problem. The larger the share of slots that the main network carrier holds at its hub, the more cautious new entrants will be about challenging its position. (This is one of the reasons that airlines are more keen to acquire slots at London Heathrow, where BA has less than 40% of the slots, than at Paris CDG or Frankfurt where Air France and Lufthansa have 55-60%, respectively.) In these circumstances, the incumbent may regularly outbid new entrants for slots and reinforce its position through an auction. This leads the authors of the DotEcon report to
55
propose that limits may need to be imposed on slot-holdings to prevent abuse of market power. Even if we agree it is a good idea to limit slot-holdings of major network carriers at their major hubs, this can be done under the current regime. For example, the Competition Commission imposed a limit on the proportion of Gatwick peak-hour slots which could be held by British Airways as a condition for BA’s acquisition of CityFlyer Express in 1999. However, any limits on slot-holdings must take into account the individual circumstances of the airport because there are also consumer benefits which arise from the development of a hub-and-spoke airline network. Network airlines compete aggressively with each other for transfer passengers to connect over their hubs and such connecting routings offer alternative choices to passengers when there are either no direct services on the route they wish to take or the choice of direct services is limited. Because of these network benefits, competition authorities have been cautious about imposing blanket limits on the share of slots held by an airline at a hub airport. So on competition grounds, the case for slot auctions is not made. If we are concerned about hub dominance, competition authorities can act within the existing slot regime. The fact that they have generally chosen not to do so reflects the fact that there are very difficult judgements to be made, balancing the benefits of network formation against any perceived constraint on direct competition. Like other competition issues, this needs to be considered on a case-by-case basis. A blanket remedy does not appear to be appropriate, and even if it were, it is far from clear that a slot auction is the best instrument available. The economic case for auctioning slots therefore rests on the efficiency benefits which might result. However, as we have seen, the current slot allocation mechanism seeks to promote efficiency in a number of different ways. First, it aims to achieve effective schedule co-ordination as well as allocating scarce capacity. It is important not to lose sight of this point, as the efficient operation of airlines and airports are important considerations as well as the allocation of scarce airport capacity. Second, the ‘use it or lose it’ rule is already an effective discipline on airlines to utilise slots productively or release them back to the pool. Though it is sometimes alleged that airlines ‘slot-sit’ by using small aircraft to retain a slot at relatively low cost, the low margins generally earned in the airline industry provide quite a strong discipline to avoid such behaviour if it is uneconomic. In general, airlines release slots if they do not need them - British Airways has recently released a large number of slots at London Gatwick as it has reduced its operations there, even though this has allowed EasyJet to build up its share of services at the airport to nearly 10% in just a few seasons. Third, more efficient use of scarce of capacity can be
56
A. Sentance / Utilities Policy 11 (2003) 53–57
achieved through secondary trading, without challenging grandfather rights and generating a total upheaval of the slot allocation mechanism. The continuation and development of secondary trading is supported by airports (ACI, 2001) as well as many airlines, including British Airways. It is wholly compatible with the current IATA/EU regime, whereas an auction requires a wholesale reassessment: limits on grandfather rights, reclaiming and re-auctioning slots, and establishing a principle of effectively paying for slots rather than having them allocated. There is no broad international support for this approach and applying it unilaterally in the UK would expose UK-based airlines to retaliation from vexed aviation authorities at the other end of the route and would probably result in a sustained legal challenge.
4. Auctions for access to new capacity Many of the same arguments above apply to the proposal to auction access to new capacity if, for example, a new runway were to be built at a London airport. However, there are two important differences which would result from auctioning access to new capacity which suggest that it merits separate attention. First, when new capacity is being generated, there is no need to timelimit or reclaim slots in order to have an auction. So an auction of new capacity could be compatible with grandfather rights, reducing some of the objections cited above. Second, an auction of a large tranche of new slots could help deal with some of the perceived problems of providing new airport capacity - generating adequate financial returns and compensating for disturbance and other environmental problems. As the UK government has embarked on a major consultation on the provision of new airport capacity (see Department for Transport, 2002), this issue is very timely. At first sight, it might seem that one benefit of auctioning newly generated airport slots would be to provide a price signal to airports to invest in new capacity. Excess demand for airport capacity would mean there was substantial value in generating new slots. Would it not make sense to allow airports to auction the slots which they create by investment in new infrastructure hence increasing their incentive to add capacity? The problem with this approach would be that the value of slots would be increased by restricting capacity growth, with the result that airports had an incentive to ensure that infrastructure development lagged behind demand, to maintain the scarcity value of new slots. This incentive structure is unlikely to be socially optimal. This incentive to restrict new capacity development could be blunted by ensuring that the proceeds of slot auctions were included in the ‘single till’ - the mechanism by which excess airport profits are ploughed back to benefit users (which forms the basis of airport price
regulation in the UK). However, containing the scope for monopoly abuse in this way would also undermine the value of the slot auction as a price signalling mechanism (as airports would not benefit from adding new capacity - the slot values would be passed back to users in the form of lower airport charges). The conclusion would appear to be that there is little merit in pursuing a slot auction if the airports are to be the financial beneficiary. What if government was to benefit from the proceeds of the auction? Environmental groups have argued for this as a means of increasing the cost of aviation to reflect its environmental impact, with the government effectively extracting a tax through the proceeds of the auction. However, if there is a view that taxes on aviation need to increase to cover external environmental costs, it would be much less disruptive and more transparent to pursue this objective by normal tax-raising mechanisms. In the UK, Airport Passenger Duty is already levied as a special tax on air travel and it is estimated to broadly cover the ‘external costs’ generated by the aviation industry (DETR, 2000). The government has a major influence on airport capacity expansion plans and it would also be dangerous to allow them to extract value from rising congestion (in the form of rising slot values), just as airports should not be allowed to benefit from restricting capacity. A theoretically attractive idea is to devote the proceeds of a slot auction to an environmental fund, which is then available to pay for the compensation and mitigation of the effects of airport expansion. This could be an efficient way of pricing for the externalities of airport development, in that the airport would have an incentive to expand up to the point at which the residual slot values equalled the cost of dealing with the external costs of expansion. The effect would be to internalise the external environmental costs of expansion through a slot auction. If the financial benefits of the slot auction exceeded the external costs of the expansion, the losers could be compensated. If not, the expansion would not be able to go ahead. However, this approach would only work effectively if the losers from airport expansion could be equitably and efficiently compensated. It is not clear that this is possible and if the distribution mechanism is wrong, the market signals will not work effectively.
5. Conclusion It is hard to avoid the conclusion that the benefits of slot auctions do not appear to justify the costs and that alternative mechanisms would be more likely to deliver the benefits claimed for an auction. If competition at major hub airports is the concern, the competition authorities already have adequate remedies available to them.
A. Sentance / Utilities Policy 11 (2003) 53–57
The fact that they are reluctant to deploy them reflects the genuinely difficult balance that needs to be struck between promoting route competition and realising the benefits of airline networks. Efficient use of capacity can be achieved through secondary slot trading and does not need primary auctions. The benefits of auctioning access to new capacity hinges greatly on how the proceeds are deployed. There appear to be problems in store if the government or the airport operator reap the benefits. Using the proceeds to compensate or mitigate the costs of airport expansion appears a more attractive option, but there may still be more efficient instruments available (eg an environmental ‘levy’ on expansion or an addition to airport charges to cover compensation and mitigation costs). For all these reasons, airport slot auctions are likely to remain a gleam in the theoretical economists eye rather than a serious policy proposition.
References ACI, 2001. Slot allocation: the airport perspective, Airports Council International Position Paper, 5 April 2001.
57
British Airways, 2002. Heathrow, Gatwick and Stansted Price Caps 2003-2008, Submission to the Competition Commission by British Airways, April 2002. CAA, 2002. Heathrow, Gatwick and Stansted Airport price caps, 20032008: CAA recommendations to the Competition Commission, Civil Aviation Authority, February 2002. Department for Transport, 2002. The Future Development of Air Transport in the United Kingdom: A National Consultation, July 2002. DETR, 2000. Valuing the external costs of aviation, Department of Environment, Transport and the Regions, December 2000. DotEcon, 2001. Auctioning airport slots: A report for HM Treasury and the Department of the Environment Transport and the Regions, DotEcon Ltd, January 2001. IATA, 2002. Scheduling services: About scheduling, International Air Transport Association website (www.iata.org/sked/about.htm). Rassenti, S.J., Smith, V.L., Bulfin, R.L., 1982. A combinatorial auction mechanism for airport time slot allocation. Bell Journal of Economics 13 (2), 402–417.