Again, large differences can be seen to have existed between the performances of the certificated trunk carriers and PSA. After taking account of the biases in the measures, it appears that in 1965 PSA's output per employee was about 100 percent larger than the average for all trunk carriers, and almost 60 percent larger than Western's output per employee. Of course, the certificated airlines provided higher quality service (including first-class service), operated many conveniently located ticket offices, were engaged in regulatory activities, and so forth, all of which would decrease employee output as measured in table 8. At the same time, their much larger and diverse route structures added complexity to their operations. Combined, these factors decreased employee productivity in terms of fundamental output measures. Here is yet another reason why the successful intrastate carriers were able to survive while charging appreciably lower fares than the CAB-regulated airlines-their specialized operations simply yielded more output per employee.

Increased input prices

The earlier analysis of carrier rivalry has shown that the regulation-promoted emphasis on service-quality rivalry has served both to increase the total stock of aircraft operated by the airlines and to decrease their utilization by installing fewer seats, operating at lower load factors, and retiring them at relatively early ages. Since the end of World War II there have been three major reequipment cycles starting in 1946 with pressurized aircraft, then turbine-powered aircraft in 1958 and, finally, wide-bodied aircraft in 1970-each with several phases in which improved versions of the basic innovation were developed. Given the emphasis on service-quality rivalry, it has been essential that each CAB-regulated airline operate the most modern equipment, and thus each new aircraft type has been adopted quickly and extensively by the regulated airlines with a concurrent replacement of existing aircraft.

78

Clearly, the above situation has resulted in greatly increased demand for new aircraft and this has benefited the aircraft and engine manufacturers over what they would have experienced without CAB regulation. At the same time, the increased variety of aircraft produced has resulted in higher costs of production. Economic theory (and common sense) predicts that increased demand for a good combined with increased costs of producing that good will result in higher equilibrium prices regardless of whether the market structure is competitive, oligopolistic or monopolistic. Thus, there is every theoretical reason to expect aircraft prices have been increased as a result of CAB-regulation. Actually, it is difficult to imagine how the 1938 and 1958 acts could have been written and implemented to promote greater demand for the products of the aircraft and engine manufacturers at the expense of the airlines and, through them, those consumers of airline services who value lower prices relatively more than very high servicequality."

80

By prohibiting the entry of new airlines, CAB regulation has also greatly benefited airline employees. The employees of CAB-regulated airlines know that they can obtain higher wages or more costly work rules without fear of having some new or existing airline enter and destroy their company and their jobs through price rivalry supported by lower labor costs. They also know that should their company happen to fail it would be merged with another CAB-regulated airline whereupon the CAB's labor-protective policies would result in their obtaining similar jobs in the merged company or receiving substantial termination payments. Furthermore, where a union provides the only source of labor of a certain category for most of the industry (pilots, for example), or where labor can otherwise act industry-wide, they know that the airlines can transfer a large portion of above-market wage demands to airline customers simply by agreeing on price increases with their fellow carriers through CAB procedures. The overall result of these factors appears to be ever higher labor costs for the regulated airlines. Evidence pertaining to these factors is fragmentary, but significant. In recent studies of the trunk and local service carriers, the CAB found that total labor costs in 1973 comprised 45.7 percent of total operating expenses for the trunk carriers and 48.9 percent for the local service carriers. In contrast, in informa

81

78 William A. Jordan, supra, note 1, at 36-44. Also, William A. Jordan, exhibit DJ-RT-1, 13-21 (testimony submitted in the American-Western merger case, CAB docket 22916, June 25, 1971).

79 William A. Jordan, supra, note 1, at 230-33.

80 CAB order 72-4-31/32 (March 28, 1972), at 18-33.

81 CAB, Productivity and Cost of Employment, System Trunks, Calendar Years 1972 and 73, 8 (Sept. 1973). Also, CAB press release 75-13 (Jan. 16, 1975).

51-146 76 pt. 1 32

82

tion submitted to this subcommittee, Air California advises that for the eleven months ended November 30, 1974, wages and executive salaries totaled just 26.1 percent of its total costs. Similarly, Southwest reports these labor categories accounted for only 28.37 percent of its total costs for the 10-month period ended October 30, 1974.83

84

Factors other than regulation probably influenced the above percentages. For example, it appears that the two intrastate carriers included interest expenses in their total costs while these are not part of the CAB-defined operating expenses. However, adding interest expenses to the certificated carriers' operating expenses merely brings their labor costs to 44.3 percent (trunk) and 47.2 percent (local service) of the expanded total. Another possible cause of these differences in labor's share of total costs is that both Air California and Southwest are young companies with relatively low seniority costs. Actually, the percentage differences are too large to be accounted for by such adjustments. Instead, they are consistent with the prior evidence that the employees of small, specialized airlines are more productive than the employees of CAB-regulated airlines, and with the hypothesis that regulation allows employees of certificated airlines to obtain higher wages for all categories of workers.

The only California intrastate carrier to be unionized prior to 1965 was California Central-the largest and most important of the California airlines from January 1949 until it was adjudged bankrupt in February 1955. Both its pilots and mechanics were unionized, and a 37-day strike by the mechanics occurred in July and early August 1953. It appears that this strike and the subsequent wage increase reduced California Central's ability to operate effectively against its low-fare rivals (including PSA). In January 1954, just six months after the strike, it initiated the bankruptcy proceeding that eventually resulted in its demise.

85

86

It also appears relevant that PSA was never unionized until early 1971 when its station personnel voted to be represented by the Teamsters Union.88 While initially voting against union representation, PSA's mechanics eventually also joined the Teamsters and in November 1973 carried out the first strike ever instigated against PSA. While far from conclusive, it should be noted that these actions followed the PUC's effective closure of entry into the major California city-pairs during the period ending in late 1969.

The above analyses pertain to the airlines' two most important types of inputs-aircraft and labor. Similar analyses could be made regarding suppliers of other inputs such as airports, petroleum products, supplies used in in-flight services, etc. Enough has been said, however, to indicate how regulation can act to increase the prices and quantities of inputs utilized by the CAB-regulated airlines in providing their high-quality services.

Summary

CAB regulation has served to decrease airline efficiency and, thus, increase airline costs. It has done so by closing entry and then by providing an environment which encourages the certificated airlines to undertake extensive servicequality rivalry among themselves for larger shares of traffic, revenues and, hopefully, profits. As a result, the CAB-regulated airlines purchase excessive numbers of very costly aircraft and then under-utilize them; they operate over large and diverse route structures which decrease specialization and increase operational complexities, and which are associated with significantly lower employee productivity; and, finally, they pay higher prices for the larger quantities of inputs that are required for their high-quality services.

SAFETY

All U.S. airlines must comply with the safety and operational regulations of the Federal Aviation Administration. Thus, the question is, given FAA regulation, does the economic regulation of the CAB significantly influence airline safety? The evidence on this point is unclear.

82 R. W. Clifford, president, Air California, Letter to Senator Edward M. Kennedy, attachment (Dec. 19, 1974).

83 M. Lamar Muse, president, Southwest Airlines, Letter to Senator Edward M. Kennedy, 20 (Jan. 3, 1975).

84 CAB, Air Carrier Financial Statistics, 1, 4 (Dec. 1973).

85 William A. Jordan, supra, note 1, at 183-84.

86 PSA, First Quarter Report (ending Mar. 31, 1971).

87 The Wall Street Journal, 16 (Midwest edition, Nov. 19, 1973).

89

88

The California intrastate carriers have experienced two fatal accidents. On December 7, 1949, a California Arrow DC-3 crashed near Vallejo, California, killing six passengers (including the wife and son of the airline's owner) and three crew members. Then, 14 years later on March 1, 1964, a Constellation L-049 of Paradise Airlines crashed near Lake Tahoe, killing 81 passengers and four crew members. These two crashes resulted in a passenger fatality rate of 2.67 passengers per 100 million revenue passenger-miles for the California intrastate carriers from 1949 through 1965, compared with a rate of only 0.45 fatalities per 100 million revenue passenger-miles for the trunk carriers and a rate of 0.92 for the local service carriers for these same years. Proponents of CAB regulation could well use these results to conclude that CAB regulation has indeed increased airline safety.

In opposition to this position, proponents of decreased CAB regulation could point out that, because of the relatively small number of revenue passenger-miles provided by the intrastate carriers, the Paradise crash had an inordinate and statistically nonpredictive effect on the data; 91 that the short stage lengths of intrastate operations increase the probability of crashes uue to the high exposure resulting from frequent takeoffs and landings (note the local service carriers' higher fatality rate); and that there have been no other crashes of intrastate carriers (either in California or Texas) so that the 1949-74 fatality rate would be very much lower than the 1949-65 rate.

It happened that both California Arrow and Paradise terminated intrastate operations shortly after their crashes. California Arrow transferred its remaining aircraft to irregular interstate service, while the FAA suspended and then refused to renew Paradise's operating certificate. Thus, in each case a fatal accident imposed substantial economic penalties on the intrastate carrier. No CABregulated airline has borne similar penalties following a crash. In fact, the CAB's economic regulation may even prevent the full application of sanctions otherwise applicable under federal safety regulations or available to consumers. With respect to service termination, if a carrier possesses a CAB certificate of public convenience and necessity, does the FAA really have the power to suspend its operating certificate following one or more fatal accidents, or are the FAA's corrective powers actually limited to fines, increased surveillance of operations, etc.? In terms of consumer choice, since carriers with low passenger fatality rates are prohibited by the CAB from quickly extending operations over the routes of a carrier having a relatively high fatality rate, do air travelers have as many opportunities under CAB regulation to express their concern over a carrier's poor safety record by using other carriers having superior records?

Regardless of one's opinion on this matter, the complete absence of fatal accidents by PSA during 16 years of unregulated operations (and continued now under increased regulation), and by California Central during six years of operations, does indicate that economic regulation is not a necessary condition for airline safety. At the same time, the varying experiences of individual certificated airlines show that such regulation is not a sufficient condition for superior safety performance.

CONCLUSION

There is strong evidence that CAB regulation has reduced entry into the airline industry, resulted in exit occurring only through acquisition and merger, and has caused fares to be much higher than they would be without regulation. One would think this would have been very beneficial to the regulated airlines and that they would have enjoyed consistently high profits. Unfortunately, the recurrent crises and low profits of most regulated airlines demonstrate that such has not been the case, and the reason for the airlines' problems can also be attributed to the CAB's regulatory policies and procedures. By motivating airlines to purchase excessive numbers of aircraft and then underutilize them, by requiring them to operate diverse services thereby reducing specialization and lowering employee productivity, and by providing an environment where larger amounts of inputs are purchased at higher prices, CAB regulation has increased

88 CAB, Résumé of U.S. Carrier Accidents (calendar year 1950), 23 (Aug. 1951). Also, The Los Angeles Times, 1 (Dec. 9, 1949).

60 CAB, Aircraft Accident Report, 1-2 (SA-378, file 1-002, July 12, 1965, processed). 90 William A. Jordan, supra, note 1, at 49-53.

91 Paradise accounted for less than one-half of 1 percent of all revenue passenger-miles carried by the California intrastate carriers from 1949 to 1965, but accounted for 93 percent of the total passenger fatalities. Id. at 51.

airline costs as much as it has increased fares. Indeed, regulated fares 50 to 100 percent higher than nonregulated fares have been accompanied by employee productivity 40 to 50 percent lower than the most successful of the nonregulated intrastate carriers. This, of course, indicates a fundamental fallacy in the Board's policy of basing fares on regulated airline costs.

Rather than the airlines themselves (or their stockholders) being the prime beneficiaries of CAB regulation, the major beneficiaries appear to have been airline employees, aircraft and engine manufacturers (and their stockholders and employees), and suppliers of all the other inputs utilized by the regulated airlines. Passengers who value high-quality airline service relatively more than other goods and passengers who do not pay for their air travel, have also benefited from the high-quality service flowing from CAB regulation. Passengers who, in contrast, prefer low-price and somewhat lower-quality service have been harmed, either by having to pay higher prices for airline services or by using less preferred means of travel, or by not traveling at all. Also harmed through having to pay higher prices or higher taxes are the many consumers of goods and services produced by firms or government agencies utilizing air transportation in their production and/or distribution activities.

Clearly, the present type of airline operation flowing from CAB-regulation is very inefficient, including substantial inefficiencies in fuel consumption. Assuming economic efficiency in a world of scarcity is desirable, this inefficiency may be rectified in one of at least two ways. The first way is to eliminate the imperfections of current CAB regulation by placing every aspect of airline operations under the direct control of the CAB. The aim would be to increase efficiency by eliminating service-quality rivalry. It would be a pure cartel attempting to maximize airline profits, or other goals, in a world of uncertainty. Of course, some individuals would be harmed by this alternative. The elimination of servicequality rivalry would result in decreased demand for personnel, aircraft and other inputs, and would reduce service-quality with little or no reduction in general fares. This alternative may be attractive to many airline stockholders and managers, but it has drawbacks over the long-run (say, 10 to 20 years). First of all, those employees still working for the airlines (and other airline suppliers) would endeavor to capture ever larger shares of the higher profits and, given their own monopoly powers, would be successful in so doing. Second, higher fares and decreased service quality would provide great motivation and many opportunities for innovators to develop new substitute services to attract the airlines' traffic from them. An historical example of such an occurrence is the way the motor carriers have been able to divert large amounts of traffic from the railroads. Third, the administration of this cartel would doubtless be cumbersome and slow to adjust to changes. So long as airline demand continues to grow, this first alternative will remain viable. It will, however, be very vulnerable to innovations or to a secular decline in demand.

The second way to eliminate airline inefficiency stemming from CAB regulation is to abolish entry control and to allow any airline to lower its fares without regulatory restraint, that is, to adopt the essentially nonregulated environment that existed within California prior to 1965. This too would be undesirable to the aircraft and engine manufacturers (unless they quickly develop aircraft having appreciably lower operating costs) because large numbers of excess aircraft would have to be absorbed into a revamped industry emphasizing low-cost, high-load factor operations. High-paid and/or relatively unproductive employees would find themselves unemployed as their companies went bankrupt or radically decreased their sizes of operation, but many of these same employees would find themselves working for the large numbers of new or expanded airlines that would purchase existing aircraft and inaugurate service. Airline passengers preferring low-prices would find themselves better off as would the consumers of goods utilizing air transportation as a productive input. The period of adjustment would probably be in the order of ten years (the effective lives of some of our older jet aircraft), but upon its conclusion the U.S. would have an efficient, lowprice air transportation system better able to adjust to economic fluctuations and operating in a way that would make the emergence of substitute services more difficult. The short-run "medicine" would taste terrible, but the long-run prognosis would be good.

Congress has to choose between the status quo or variations of one of these two alternatives. The choice will not be easy because many individuals will be harmed and many others benefited regardless of the choice.

APPENDIX A

ONE-WAY COACH PRICES FOR DALLAS-HOUSTON AND DALLAS-SAN ANTONIO SERVICE
SOUTHWEST AIRLINES, BRANIFF AIRWAYS, AND TEXAS INTERNATIONAL AIRLINES
JUNE 1971-DECEMBER 1974

1 Jet coach/economy/1-class fare plus 8 percent Federal transportation tax.

2 This and the subsequent prices in this column to Oct. 30, 1972, were available to intrastate passengers only. Interstate passengers continued to pay the price specified above. Effective Oct. 30, the highest price listed in each entry applied to interstate as well as intrastate passengers.

3 Applicable to 1 northbound and 1 southbound flight departing after 9 p.m. on weekdays and Sundays.

Applicable to 1 northbound flight departing after 9 p.m. on Fridays and 1 southbound flight departing after 9 p.m. on weekdays and Sundays.

& $50 round-trip price. $225 commuter club card introduced providing unlimited transportation for a 30-day period. Available to intrastate passengers on a daily Braniff weekday flight departing Dallas at 7:30 p.m. and returning from Hobby Airport in Houston at 9 p.m.

7 $26 on weekday flights prior to 8 p.m. $13 on Saturday and Sunday flights with a $25 round-trip price.

8 Applicable to flights departing on or after 8 p.m.

The CAB authorized a 2.7 percent across-the-board fare increase effective Sept. 5, 1972, and this price was a delayed response to that action. Texas International adopted this price for intrastate passengers on Jan. 11, 1973.

10 Braniff: to/from Houston Intercontinental Airport $27, to/from Hobby Airport $13 with $25 round-trip price. Texas International: to/from Houston Intercontinental $13 effective Feb. 20, 1973.

11 Footnote deleted.

12 Braniff: weekdays $27, Saturday-Sunday to/from Houston Intercontinental $27, Saturday-Sunday to/from Hobby Airport $13. Texas International: $20.

13 Available to intrastate passengers on one Braniff flight departing Hobby Airport at 9 p.m. daily.

14 $28 for intrastate passengers utilizing approximately 10 daily flights. $13 for intrastate passengers utilizing another 5 or so designated flights.

15 Braniff: weekdays $27, Saturday-Sunday to/from Houston Intercontinental $27, Saturday-Sunday to/from Hobby Airport $13. Texas International: weekdays $27, Saturday-Sunday through Sept. 30, $20; effective Oct. 1, $27 on all days. 16 $28 on weekday flights prior to 8 p.m. $15 on Saturday and Sunday flights.

17 Braniff: weekdays $28, Saturday-Sunday to/from Houston Intercontinental $28, Saturday-Sunday to/from Hobby Airport $14.99. Texas International: $28.

1 Available to intrastate passengers on Braniff flights departing on or after 7 p.m. to/from Hobby Airport.

19 $29 for intrastate passengers utilizing approximately 10 daily flights. $14.99 for intrastate passengers utilizing another 5 or so designated flights. Effective Jan. 13, 1974: $29 for all flights to/from Dallas-Fort Worth Regional Airport, $15 for all flights to/from Love Field.

20 Braniff: weekdays $30, Saturday-Sunday to/from Houston Intercontinental $30, Saturday-Sunday to/from Hobby Airport $14.99. Texas International: $30.

21 $31 for all flights to/from Dallas-Fort Worth Regional Airport, $15 for approximately 3 daily flights to/from Dallas Love Field. Braniff terminated all service at Love Field effective Sept. 1, 1974.

22 $25 on weekday flights prior to 7 p.m. $15 on Saturday and Sunday flights.

23 Applicable to flights departing on or after 7 p.m.

Source: Braniff Airways, letter from T. P. Robertson (Jan. 29, 1975); Southwest Airlines annual report (1971, 1972, and 1973). Also quarterly report (3 months ended Mar. 31, 1972-74, June 30, 1972-73, and Sept. 30, 1971-73). Texas International Airlines, letter from V. R. Shelley (July 16, 1974). Official Airline Guide (North American edition, Apr. 15, June 1, Sept. 14, Oct. 15, Nov. 1, and Dec. 1, 1972; Apr. 1, May 15, June 15, July 15, and Nov. 15, 1973; Jan. 15, Feb. 1, May 1, Aug. 1, Oct. 15, and Dec. 1, 1974). Aviation Week and Space Technology 43 (Apr. 30, 1973), and 37 (June 4, 1973 The Houston Post 5/A (Jan. 31, 1973).