What are the economics of airline tickets?

June 10, 2005 2:29 AM

How do the economics of airline ticket pricing work?

Last night, I purchased a couple of return tickets to fly to Amsterdam for myself and my wife. The total ticket price was about £5.60(!), while the taxes were about £76. How on earth can it be worthwhile the airline flying me and my wife for that price? Wouldn't it be better to save on weight and fly an empty plane rather than basically taking passengers for free? And if it is economically worth it, why can't I book train tickets at that price?

posted by salmacis to travel & transportation (18 comments total)

The trick here is that airlines aren't concerned about how much each passenger pays, but that the flight as a whole is profitable. The cost of flying you is subsidized by the people who paid more for the seat, buy lots of food/drink/etc, or get charged large fees for changing their booking. By putting you onboard they increase the number of passengers and therefore (by the law of averages) the number of profitable passengers. And anyway,£5.60 is still more revenue than they'd get from an empty seat.

For trains, the "taxes" are built in to the price of the ticket.
posted by cillit bang at 2:55 AM on June 10, 2005

"Here's how Compton and his colleagues think about this: You always want that seat available to sell at full price -- just in case someone wants it. You want to sell every seat on the plane, except that you also want to have a handful left at the very end, for your most profitable (not to mention most grateful) customers.

The airlines could easily sell out every seat, every flight, every day. They'd price 'em pretty low, book 'em up, and wait for takeoff. But that would mean there'd never be any seats available two or three weeks before a flight took off. How exasperated are we to call and find no seats three days out? What if there were no seats three weeks out?

When you understand that dilemma, all of a sudden, airline prices don't seem so exploitive. Although all of the seats on that New York - Miami flight are going to the same place, they aren't the same product. You pay less when you commit to a ticket four weeks in advance; Continental assumes a risk for holding a seat until the end -- and wants to be paid a lot to balance the times when saving that last seat for you means that the seat flies empty. A ticket sold a month out and a ticket sold a day out are very different things."

- Which Price is Right?
posted by gi_wrighty at 3:25 AM on June 10, 2005

As a corollary to the main question, can anyone say anything about the economics of flights where the tickets on one plane are split between two airlines. (Not sure how common this is in the US but I've come across it a couple of times in Europe.)
posted by biffa at 3:49 AM on June 10, 2005

The authorities at the destination end of the flight subsidise the seats - the logic being that if they subsidise your seat by, say, £20, you'll bring more than £20 of tourist revenue with you, resulting in a net gain for the local economy. (There may have been a European ruling against this last year... I'm not certain).

A couple of years ago RyanAir were publically stating that they hoped to drop the price of a flight to zero via subsidies... I don't know if that's still the case or not.
posted by Leon at 4:56 AM on June 10, 2005

I've worked with airlines to develop online ticketing applications, and the underlying economics are _unbelievably_ complicated. (A guy at British Airways once explained to me that they actually have more _fares_ than they do _seats_ in a given year.) The processing infrastructure--mainframes, etc.--to handle pricing is usually just as complicated as what they use to handle flight routing and passenger ticketing.

The two most obvious factors in a fare are, of course, what you might call "demand" and "features. "Demand" is just what it sounds like, and "features" are things like having a flexible return date, etc. A lot of the "features", though, are really ways of maximizing profit within different segments, like paying more if you don't stay over a weekend. There's no logistical reason for that to happen...it's just a crude way of separating out the business travelers, who can pay more, from the leisure travelers, who are much more price-sensitive.

Fares as low as the ones you paid are suspicious to me. My first guess would be that they're trying to put some really, really cheap seats on the books to lower the overall average fare, or meet some other kind of low-fare threshold. It might be so that they can make some kind of PR claim in the fight against the RyanAirs of the world ("Our average ticket price is just £75!"), but I doubt it. There's probably some much more concrete reason, like a regulation or a tax code, where they've got some business benefit from booking some chunk of seats with very low fares.

Some other reasons they might price a fare so low:
- As part of a promotion to acquire new customers. The lifetime value of a loyal customer is pretty high, so it can be worth it to start the relationship by offering a ticket that's not profitable.
- They might be breaking into a new market. They frequently do this as a way of driving up the initial volume of flyers on a new route. (Doesn't RyanAir do this with new routes, where they basically charge a negligible amount to start out in a new city?)
- If it's an older airline, one of their existing routes might be under attack from the same very low-cost flyers.

(On preview, Leon also raises a very good point. That runs counter to the traditional model of airline ticket pricing, since it undercuts fare revenue, and that's traditionally how airline companies are judged, but it's a brave new world now.)
posted by LairBob at 5:00 AM on June 10, 2005

As a corollary to the main question, can anyone say anything about the economics of flights where the tickets on one plane are split between two airlines. (Not sure how common this is in the US but I've come across it a couple of times in Europe.)

This is called "codesharing," and it's fairly common here; Northwest and Continental do it a lot, and IIRC, United and US Airways used to as well. Several US carriers also have codesharing agreements with transcontinental carriers. Delta used to have one with Korean Air, for example, and still may.

Codesharing allows an airline to go where it normally doesn't have service, or it allows it to expand its services in airports to which it does have service. What I saw when I was in the travel industry was that a lot of times, the piggybacking carrier's fares were usually a little higher than those of the primary carrier on the same flight, presumably to offset the cost of the contract. I figured it was because although they're saving money by not flying their own equipment, buying seats on a competitor's flights, even at contracted rates, still costs.

I always found codesharing to be a pain in the rear, as it essentially is splitting up one aircraft between the passengers of two airlines. It's like a battle royale to get seats on those flights, which are usually on popular routes. Ugh.
posted by angeline at 7:55 AM on June 10, 2005

See the Airline Ticket Consolidators and Bucket Shops FAQ for more than you'll probably ever want to know about ticket pricing at the bargain end of things.
posted by togdon at 8:00 AM on June 10, 2005

Thanks angeline.
posted by biffa at 8:05 AM on June 10, 2005

The economics of the airline industry are fascinating. If you want more info I would recommend Rigas Doganis's Flying Off Course and The Airline Business in the 21st Century. They're textbooks and kind of a slog, but really interesting and well done.
posted by MarkAnd at 8:37 AM on June 10, 2005

Ryanair and EasyJet do get close to free fares (flyer pays taxes only). I flew from Heathrow to Brussels for 5£ [plus 14£ taxes on BMI. My fried from the UK said that that these airlines make money on alcohol and other duty free sales. I wish that idea would catch on over in the US. I remember being able to go on short hops on Southwest and America West for $19 each way.
posted by birdherder at 10:32 AM on June 10, 2005

(Related to what LairBob wrote: United States v. AMR/American Airlines is an unusually good read for a court case. You'd probably only want to read the order, but that still has a lot about how an airline operates.)
posted by milkrate at 12:08 PM on June 10, 2005

Okay, so, this is sort of the same question, but not really, and maybe this can be explained by somebody: My flight from Toronto, Canada to Entebbe, Uganda cost me $2100 CAD, roundtrip. Because of various 'issues', i investigated the possibility of buying two one-ways instead. But each one-way fare was $5400, so 10900 roundtrip! Considering that i could just buy two round-trips and waste half of each ticket and still spend less than half of that total, why would anyone in their right mind buy those one-ways? And then therefore, why the heck would they sell them?
posted by Kololo at 3:10 PM on June 10, 2005

Considering that i could just buy two round-trips and waste half of each ticket and still spend less than half of that total, why would anyone in their right mind buy those one-ways?

Because if you buy a round-trip ticket and don't use half of it, you'll be charged the one-way fare retroactively anyway. Besides which, you might well cause a security panic (having a ticket gives you the right to check luggage, remember, which is a gaping security hole if they don't make sure you're actually on the plane). So you might as well just pay and get it over with.
posted by kindall at 5:45 PM on June 10, 2005

Further on the two round trips for being used as one-way tickets, many major carriers have systems in place to catch bookings like that, and if you're caught you could just be charged the one way fare - as of that day, not as of the day of your booking, and there is usually a considerable difference. Or they could just cancel all of your tickets and deny boarding.

They could also revoke your entire bank of frequent flyer miles, if you have any, plus kick you out of the program. No big deal if you don't really care, but I've been amazed at the number of people who scream bloody murder when this happens.
posted by angeline at 6:42 PM on June 10, 2005

Kololo writes "Considering that i could just buy two round-trips and waste half of each ticket and still spend less than half of that total, why would anyone in their right mind buy those one-ways?"

That's something the airlines are constantly trying to prevent. (The most common situation is where you want to travel back and forth within a given week, without staying over a Saturday...instead of buying a round trip that leaves Monday and comes back Friday, it can be a lot cheaper to buy two round-trip tickets. One round-trip ticket leaves Monday and comes back a week later, for your outbound leg, and then a second round-trip that involves a Friday leg coming back, but spans a weekend before or after.)

The basic issue is that the airlines are trying to ensure predictability, and one of the main ways that do that is by managing their seat inventory in outbound-inbound pairs. When you buy a round-trip ticket, you're basically buying two seats at once, in a predictable pairing, and behaving like they prefer--the more that everyone does that, the more predictable their demand is going to be, and the more they can almost halve the complexity of their inventory management. They want to reward that behavior, and punish one-way behavior through pricing.

The extra issue is that they're also trying to constantly prevent "gaming" the system. Any complex economic system like that basically depends on an almost perfectly naive consumer--you're supposed to know what you want, and have a basic idea of factors like demand and features. Like any game theory/economic system, as soon as you start taking the system itself into account, you raise the complexity of the model astronomically. They hate that (understandably), since it's hard enough to model a successful system with a totally uninformed consumer, so they want to strongly discourage you from trying to do it.
posted by LairBob at 7:35 PM on June 10, 2005

As Adam Smith will tell you, the price of the ticket is its value.

There is one factor that no one else has mentioned: the deadhead factor. If the airline has a plane that it needs to be in a major city the next morning for a profitable flight, it will give you a great deal on a ticket to that major city. It doesn't care about losing money on that flight - it wants the aircraft there the next day so that it can make some money.
posted by yclipse at 8:21 PM on June 10, 2005

Because if you buy a round-trip ticket and don't use half of it, you'll be charged the one-way fare retroactively anyway.

Pay with a debit card.
posted by b1tr0t at 9:55 PM on June 10, 2005

And that's going to stop them how exactly? Even if you take all the money out of the account, your bank may honor it anyway, and then you'll be out the extra money plus an NSF fee. In any case, if you don't pay, I'm sure it'll eventually wind up as a nice big black mark on your credit report.
posted by kindall at 5:58 PM on June 17, 2005