How Do Incumbents Respond to the Threat of Entry? Evidence from the Major Airlines

Competition Policy and Antitrust

Article Snapshot

Author(s)

Austan Goolsbee and Chad Syverson

Source

The Quarterly Journal of Economics, Vol. 123, No. 4, pp. 1611-1633, 2008

Summary

This paper shows that airlines lower prices on routes when new competitors may easily enter the market.

Policy Relevance

This paper provides some evidence of anticompetitive behavior in the airline industry, but its applicability to other markets is uncertain.

Main Points

  • When a new firm enters a market, firms that were previously active in the market—incumbent firms—typically lower their prices.
    • However, some mathematical models predict that incumbent firms should lower their prices before a new firm is able to enter the market in order to discourage its entry. Others models predict no preemptive price changes.
       
  • This paper examined the pricing behavior of incumbent airlines in markets that Southwest had the potential to enter as it expanded.
    • These incumbents cut fares on flights between cities where Southwest could easily establish a route before Southwest actually established a route.
       
    • When Southwest was assured to enter a market, data weakly suggest that incumbent airlines did not cut prices; this supports the hypothesis that preemptive price cuts aim to deter entry by competitors.
       
    • In response to fare reductions, more passengers flew the routes operated by incumbent airlines, but the airlines did not otherwise increase their capacity on those routes.
       
  • The applicability of these results to other markets is not clear.
     

 

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