Fairness to airline consumers

Systematic thinking should guide us in the use of state power

The airline industry has emerged as an important new feature of the Indian economy. The conceptual machinery of market failure and lowest-cost intervention guide us on thinking about policy problems and solutions.

Underserved destinations

One piece of the airline industry is well understood: Profit-maximising airlines may choose to not serve certain poor locations. The market failure here is “the positive externality”. Air connectivity imposes gains upon the city over and beyond the gains reaped by the traveller.

Positive externalities are well known in economics, with examples ranging from education to vaccines. The standard solution is public funding. A government should run a “viability gap funding” (VGF) mechanism. An auction would take place where airlines would offer capacity of “N” seats a month on a given route and ask for payments from the exchequer. Multiple bids would be permissible (ie each airline would put up multiple price and quantity numbers). The lowest bids adding up to “N” would be chosen. Through this, the government would pay the airlines that are chosen through the auction.

The subsidiarity principle teaches us that every function of the state should be pushed down to the lowest level of government where it can feasibly be done. This function thus belongs to the city government. It should be the decision of, say, Nashik to decide that it is a good use of public money to establish a VGF and bolster air connectivity. Given the failures of subnational finance in India, this may instead need to be at the state government level. The problem statement — run an auction for a VGF — is a relatively easy one in terms of the four dimensions of complexity: The number of transactions (low), the level of discretion (low), stakes (low), and secrecy (none).

Market power

Next we come to the problem of market power. We have an environment of one or two airlines with dominant market share. The market failure here is “market power”.

One solution lies in going down the route of the Competition Commission of India acting against the one or two dominant airlines. This runs into all kinds of implementation difficulties under developing country conditions.

A good principle in the field of market power is that when there is full global competition, there is no domestic concern over competition policy. Thus, the solution to market power in the airline industry lies in opening up access to all global airlines. Multiple global airlines will compete in India and remove any supernormal profit. This is a difficult reform only in the thinking. It is an easy reform in the implementation, it is a “first-generation reform” (mere stroke of the pen, no complexities of building state capacity).

Consumer protection

Many actions of airlines are harmful to consumers while consumers have a low understanding of what is going on and have limited bargaining power. These include last-minute changes of the time (which impose costs upon users who have to perforce reschedule their activities), premature closing of the departure gate (which harms the interests of users who are told they are a no-show) and problems with refunds (all too often users get very little money back for a flight cancellation).

This is a difficult field for policymakers because it involves intricate knowledge about the workings of the airline industry. Thinking through the four dimensions of complexity, we have a number of transactions (high), a level of discretion (high), stakes (modest), and secrecy (none). We should recognise how hard this is before we think of solutions. It is all too possible for the government to degenerate into central planning and corruption.
 

There are analogies with regulation in finance, where consumer protection is the central problem. In telecom, the problem of “quality of service” concerns telecom companies which sell plans to consumers but actually lack the implementation to deliver sound services, leading to problems such as calls dropped and poor bandwidth.

The simplest piece in state intervention is the release of information. As an example, the release of facts about on-time performance, about the percentage of pax who were a no-show, will exert pressure upon airlines to do better. These require the coercive power of the state to force data release and to police the correctness of the data. (A similar strategy is there for airports https://bit.ly/airports-disclosure).

John Maynard Keynes said, “The important thing for government is not to do things which individuals are doing already, and to do them a little better or a little worse; but to do those things which at present are not done at all.” The government should stick to its lane and coerce private persons. Everything else is best done by private persons.

By this reasoning, state coercion for information release by airlines should be about (a) establishing the content of the information that must be released; (b) the API (advance passenger information) through which this is made available to the public (without requiring any name/password/payment); and (c) the mechanism for ensuring compliance. After that, the private sector will do its magic of building websites, apps, alert services, insurance products, ratings, awards, etc.

Finally, we come to the hardest problems of all, of regulation, of the rules which coerce airlines regarding how they behave so as to be fair to consumers, to achieve certain minimum levels of quality of service. These interventions are easy to describe but very hard to implement in practice. India now has a great deal of experience and knowledge on the regulatory theory of understanding how regulators work poorly in the country. The path to state capacity lies in the strategy developed in the context of financial regulators, which is applicable to all regulators, of the Financial Sector Legislative Reforms Commission (2011-15), chaired by Justice Srikrishna. A draft law, research materials, and an expository video (https://bit.ly/india-regulation) exist.

Conclusion

Modern public policy knowledge (https://bit.ly/isotr) helps us in formulating the strategy, as broadly sketched above. This helps us rise above the conventional developing country diseases of welfarism, populism, and power play.

The writer is a researcher at XKDR Forum