oversight

International Aviation: Competition Issues in the U.S.-U.K. Market

Published by the Government Accountability Office on 1997-06-04.

Below is a raw (and likely hideous) rendition of the original report. (PDF)

                    United States General Accounting Office

GAO                 Testimony
                    Before the Subcommittee on Aviation, Committee on
                    Commerce, Science, and Transportation, U.S. Senate




For Release
on Delivery
Expected at
                    INTERNATIONAL
2:00 p.m. EDT
Wednesday           AVIATION
June 4, 1997



                    Competition Issues in the
                    U.S.-U.K. Market
                    Statement of John H. Anderson, Jr.,
                    Director, Transportation Issues,
                    Resources, Community, and Economic
                    Development Division




GAO/T-RCED-97-103
    Mr. Chairman and Members of the Subcommittee:

    We appreciate the opportunity to testify on U.S. aviation relations with the
    United Kingdom, our largest aviation trading partner overseas. As we
    testified before this Subcommittee in March 1996, access to London’s
    Heathrow Airport is important to any airline that desires to be a major
    participant in the transatlantic market.1 Unfortunately, our bilateral
    aviation agreement with the United Kingdom restricts the number of U.S.
    airlines that can serve Heathrow to two carriers—American Airlines and
    United Airlines. In June 1996, American Airlines and the United Kingdom’s
    largest airline, British Airways, announced that they intended to form an
    alliance that would allow both carriers to market each other’s flights as
    their own (referred to as “code-sharing”) and that they would seek
    immunity for the alliance from U.S. antitrust laws. Such alliances must be
    approved by the Department of Transportation (DOT), and as a matter of
    U.S. policy, DOT only grants antitrust immunity to such alliances if there is
    an “open skies” agreement.2 Since July 1996, DOT has been negotiating with
    the British government but the two sides have yet to agree on such an
    accord.

    Over the past several years, we have issued a number of reports on
    international aviation issues, including our April 1995 report on the
    competitive impacts of code-sharing alliances.3 As requested, we will draw
    on this body of work to discuss the (1) current status of airline
    competition in the U.S.-U.K. market and of negotiations between the
    United States and the United Kingdom, (2) potential competitive impacts
    of the proposed alliance between American Airlines and British Airways,
    and (3) obstacles that might prevent U.S. airlines from having adequate
    access to Heathrow.

    In summary,

•   The current bilateral accord between the United States and the United
    Kingdom places substantial limits on competition. As a result, consumers
    in both countries have more limited service options and likely pay higher


    1
     International Aviation: DOT’s Efforts to Increase U.S. Airlines’ Access to International Markets
    (GAO/T-RCED-96-32, Mar. 14, 1996).
    2
     Generally, an open skies agreement removes all restrictions on air travel between two countries and
    allows airlines to fly between the countries when they want, where they want, and set fares in
    response to market forces.
    3
     International Aviation: Airline Alliances Produce Benefits, but Effect on Competition is Uncertain
    (GAO/RCED-95-99, Apr. 6, 1995). Other related GAO products are listed at the end of this statement.



    Page 1                                                                           GAO/T-RCED-97-103
    fares than they would in a more competitive environment. In addition,
    these limits on competition disproportionately impact U.S. airlines—most
    of whom are not allowed to serve Heathrow. Only two U.S. airlines can
    currently serve Heathrow, and even those two are only permitted to do so
    from certain designated cities. By contrast, British Airways has already
    obtained, in previous negotiations, extensive access to the U.S. market.
    Partly as a result, U.S. airlines’ share of the U.S.-U.K. market has steadily
    declined over the past few years, while British Airways’ share has risen.
    With little leverage with which to deal, DOT has achieved little success in
    securing increased access for U.S. airlines to Heathrow. As we noted in
    our March 1996 testimony, progress would likely not occur until the
    United Kingdom identified something else it wanted from the United
    States. That moment arrived a year ago with the announcement by
    American Airlines and British Airways of their planned alliance. However,
    several difficult issues, such as the British government’s insistence that an
    open skies agreement also contain a formal mechanism to resolve
    disputes, have stalemated negotiations.
•   The potential alliance of American Airlines and British Airways—the two
    largest carriers in the U.S.-U.K. market—raises significant competition
    issues. In 1996, the two airlines accounted for 60 percent of the scheduled
    passenger traffic that flew between the United States and the United
    Kingdom. In addition, they currently provide over 70 percent—and in
    some cases all—of the service between Heathrow and several key U.S.
    gateways, including New York, Chicago, Boston, and Miami. As a result of
    this level of market concentration, DOT’s approval of the alliance would
    further reduce competition unless, as a condition of the approval, other
    U.S. airlines are able to simultaneously obtain adequate access to
    Heathrow. Specifically, the available evidence suggests that to ensure
    increased competition, the other major U.S. airlines that fly internationally
    would need to serve Heathrow from their principal hubs.
•   Barriers exist at Heathrow in the form of a limited number of takeoff and
    landing slots and a scarcity of available gates and facilities that prevent
    U.S. airlines from having adequate access to that airport. As a result,
    action will be necessary to address these barriers if open skies is to result
    in increased competition. However, both American Airlines and British
    Airways have indicated that even if they agree to relinquish some of their
    slots to the other U.S. airlines, they would expect to be paid the fair
    market value for those slots. European Union (EU) officials believe that
    their regulations governing the transfer of slots at airports in EU-member
    countries prohibit the buying and selling of slots. British officials,
    however, believe that flexibility may exist to accommodate the payment to
    the potential alliance partners for any slot transfer. In addition to a



    Page 2                                                      GAO/T-RCED-97-103
             transfer of slots, agreement would be needed to address the facility
             constraints at Heathrow so that new entrants have access to the gates,
             ticket counters, terminal space, and baggage facilities they would need.
             Over the past few years, local community opposition and environmental
             concerns have delayed plans for expansion in these areas.


             In the international sector, the routes that airlines can fly, the frequency of
Background   their flights, and the fares they can charge are governed by 72 bilateral
             agreements between the United States and other countries. Many of these
             agreements, including the accord with the United Kingdom, are very
             restrictive. Since the late 1970s, U.S. policy has been to negotiate
             agreements that substantially reduce or eliminate bilateral restrictions.
             DOT’s Office of the Assistant Secretary for Aviation and International
             Affairs, with assistance from the State Department, is responsible for
             negotiating these agreements and awarding U.S. airlines the right to offer
             services provided for in those agreements.

             In April 1995, DOT issued the U.S. International Aviation Policy Statement
             in which the agency reiterated its desire for open skies agreements and
             endorsed the growing trend toward alliances between U.S. and foreign
             airlines. Since issuing that statement, DOT has negotiated a number of more
             liberal agreements, including open skies accords with Germany and
             numerous smaller European countries. In conjunction with these
             agreements, the agency granted antitrust immunity in 1996 to the alliances
             between United and Lufthansa, which is Germany’s largest airline, and
             between Delta and several smaller European carriers.4 In 1992, DOT
             granted antitrust immunity to the Northwest/KLM alliance in conjunction
             with the U.S.-Netherlands open skies accord. In announcing their
             proposed alliance, American Airlines and British Airways emphasized that
             they are at a competitive disadvantage to these alliances because the
             airlines in those alliances can, among other things, better coordinate
             service and jointly set fares.

             Despite success in negotiating open skies agreements throughout much of
             Europe, DOT has had very little success with the United Kingdom. The
             current U.S.-U.K. accord, commonly known as “Bermuda II,” was signed in

             4
              Our April 1995 report on code-sharing alliances found that DOT’s ability to monitor the impact of
             alliances on airfares was limited because foreign airlines are not required to report data from a sample
             of their tickets involving travel to or from the United States. We reported that DOT’s data provided
             information only from tickets sampled by U.S. airlines, and thus the agency only had fare data for trips
             that at some point involved a U.S. carrier. We recommended that DOT require that foreign airlines
             report ticket data to DOT. Since our report, DOT has required foreign airlines in alliances that have
             been granted antitrust immunity to report such data.



             Page 3                                                                           GAO/T-RCED-97-103
                          1977 after the British renounced the prior agreement. Since that time, DOT
                          has expressed increasing dissatisfaction with Bermuda II and attempted to
                          negotiate increased access for U.S. airlines to Heathrow. Negotiations with
                          the British also take on particular importance because of the size of the
                          U.S.-U.K. market. In 1996, 12 million passengers travelled on scheduled
                          service between the United States and the United Kingdom, which is more
                          than twice the U.S.-Germany market and three times the U.S.-France
                          market.


                          Competition is restricted in the U.S.-U.K. market because Bermuda II,
Current Accord’s          among other things, (1) sets limits on the amount of service airlines can
Limits on Competition     provide, (2) prevents all U.S. airlines except American and United from
Continue to Hurt          flying to and from Heathrow5, (3) does not allow American to serve
                          Heathrow from its primary hub in Dallas, and (4) severely restricts United
Consumers and U.S.        in the amount of service to Heathrow it can provide from its primary hub
Airlines, While Efforts   at Chicago O’Hare. These restrictions on competition result in fewer
                          service options for U.S. and British consumers. In addition, they also likely
to Negotiate New          result in higher airfares. However, the extent to which this is the case is
Accord Persist            uncertain. Because DOT has generally not required foreign airlines to report
                          data from a sample of their tickets, as it requires U.S. airlines to do, the
                          agency does not have data on fares paid by passengers flown by British
                          Airways or Britain’s other major transatlantic airline, Virgin Atlantic, if
                          those passengers’ itineraries did not involve a connection with a U.S.
                          carrier.

                          Bermuda II’s limits on competition also disproportionately affect U.S.
                          airlines. In contrast to the continuing restrictions placed on U.S. airlines,
                          the United Kingdom was successful in negotiating increased access for
                          British carriers to the U.S. market in the early 1990s. Partly as a result,
                          between 1992 and 1996, the British carriers’ share of the U.S.-U.K. market
                          rose from 49 percent to 59 percent. As figure 1 shows, this gain by British
                          Airways and Virgin Atlantic has come primarily at the expense of the U.S.
                          airlines who are not allowed to serve Heathrow.




                          5
                           Continental Airlines, Delta Air Lines, Northwest Airlines, and TWA are prohibited from flying to
                          Heathrow and instead must use London’s Gatwick Airport. Gatwick is less desirable to business
                          travelers than Heathrow because it is located farther from downtown London and provides fewer
                          connecting flights to Europe, the Middle East, and Africa. US Airways (which changed its name from
                          USAir effective February 27, 1997) currently has no service to either Heathrow or Gatwick.



                          Page 4                                                                        GAO/T-RCED-97-103
Figure 1: Share of Scheduled
Passenger Traffic Between the United   50      Market share percentage
States and the United Kingdom by
                                       45
Airline, 1992, 1994, and 1996
                                       40

                                       35

                                       30

                                       25

                                       20

                                       15

                                       10

                                           5

                                           0

                                                British Airways     Virgin Atlantic    American            United Airlines      Other 5 U.S.
                                                                                       Airlines                                 Airlines
                                                Year



                                                         1992

                                                         1994

                                                         1996



                                       Source: GAO’s analysis of DOT’s international traffic data.




                                       British carriers’ increased access to the U.S. market largely came as a
                                       result of a revision to Bermuda II in 1991 that allowed American and
                                       United to replace TWA and Pan Am as the U.S. carriers allowed to serve
                                       Heathrow. In exchange, British Airways gained the right to code-share
                                       with a U.S. airline. In 1993, British Airways entered an alliance with USAir
                                       and began exercising its right to market as its own USAir’s domestic flights
                                       that connected to British Airways’ transatlantic service.6 As we reported in
                                       April 1995, British Airways’ exercising of its code-sharing rights was
                                       yielding substantial traffic gains, largely at the expense of U.S. airlines.
                                       Similarly, Virgin Atlantic’s access to the U.S. market has grown

                                       6
                                        As a condition of approval of the USAir/British Airways alliance, USAir agreed to divest itself of its
                                       three U.S.-U.K. routes. USAir had been serving Gatwick from Baltimore, Charlotte, and Philadelphia.
                                       As a result of the proposed American/British Airways alliance, US Airways terminated its alliance with
                                       British Airways in March 1997. In May 1997, British Airways sold its 24.6 percent stake in US Airways.



                                       Page 5                                                                          GAO/T-RCED-97-103
substantially. Prior to 1991, the airline was not allowed to use Heathrow
but instead was required to use Gatwick. As part of the revision to the
bilateral agreement in 1991, Virgin Atlantic was allowed to transfer much
of its service from Gatwick to Heathrow.

Recognizing Heathrow’s importance, DOT over the past few years has
engaged in numerous negotiations with the British in an effort to increase
U.S. airlines’ access to that airport. In light of the extensive access to the
U.S. market that British Airways and Virgin Atlantic had already secured,
DOT has had little leverage. It only secured direct access to Heathrow for
United from O’Hare in 1995 (limited to one flight per day prior to April 1,
1997, and currently limited two flights per day). Expressing frustration
with the lack of progress in negotiations, Delta in 1995 implemented an
alliance with Virgin Atlantic under which it code-shared on Virgin
Atlantic’s flights between the United States and Heathrow.7 With the
announcement by British Airways and American Airlines in June 1996, DOT
had apparently been given the leverage it had long sought. According to
DOT officials, the agency’s approval of the alliance and granting of antitrust
immunity would be based, at a minimum, on the conclusion of an open
skies agreement. The latest round of negotiations, however, ended in
mid-February without such an accord.

Issues that have proved problematic in the past continue to stymie talks
between the two countries. In particular, DOT does not share the British
view that a formal mechanism is needed to resolve disputes that may arise
or that the governments need to retain the right to monitor fares set by the
airlines and disapprove them if they are too high or too low. Disagreement
also exists over whether British Airways and Virgin Atlantic would be able
to bid for the right to carry U.S. government workers under an open skies
regime. Despite these disagreements, DOT and British officials told us they
are confident that they will eventually be able to reach an open skies
accord.




7
 In March 1997, Delta and Virgin Atlantic announced that they would terminate their code-sharing
alliance. Also in March 1997, Continental and Virgin Atlantic indicated that they planned to seek
approval from the U.S. and British governments for a code-sharing alliance. The proposed
Continental-Virgin Atlantic alliance has not yet been approved by either government.



Page 6                                                                         GAO/T-RCED-97-103
                     While the proposed American/British Airways alliance would likely
Under Open Skies,    increase competition in markets between the United States and the
Alliance Would       European continent, the Middle East, and Africa because the number of
Dominate and         alliances competing in these markets would increase from three to four, it
                     raises serious competition issues in the U.S.-U.K. market. This is because
Competition Would    rather than competing with each other, under the alliance the two largest
Decline Further      airlines in the U.S.-U.K. market would in essence be operating as if they
                     were one airline. In 1996, American Airlines and British Airways
Unless Substantial   accounted for 60 percent of the scheduled passenger traffic that flew
New Entry Occurred   between the United States and the United Kingdom. Moreover, as of
                     June 1997, the two airlines account for 38 of the 55 total daily roundtrips
                     (69 percent) between the United States and Heathrow offered by
                     scheduled U.S. and British airlines.8

                     American Airlines and British Airways currently compete with one another
                     in five key U.S. gateways to Heathrow, including the two largest—New
                     York and Los Angeles, and one gateway to Gatwick—Dallas. New York’s
                     importance is underscored by the fact that the market between it and
                     Heathrow accounts for one-fifth of all U.S.-London service and is nearly
                     three times the size of the Los Angeles-Heathrow market. At 5 of the 6
                     gateways where American Airlines and British Airways compete—New
                     York, Chicago, Boston, Miami, and Dallas—they account for over
                     70 percent of the service, and at Los Angeles they account for over
                     60 percent. In addition, in the Boston and Miami markets, American
                     Airlines and British Airways currently are the only carriers that serve
                     Heathrow, and in the Dallas market they are the only nonstop competitors.

                     At another eight U.S. cities, either British Airways or American has a
                     monopoly on nonstop service to either Heathrow (two cities) or Gatwick
                     (six cities). As a result, the proposed alliance would account for over
                     70 percent of the service in 13 U.S. gateways to London (fig. 2).9 In our
                     October 1996 report on domestic competition, we found that competition
                     was most limited and airfares highest in markets dominated by one
                     airline.10




                     8
                      As of June 1997, British Airways has 24 daily roundtrips and American Airlines has 14 daily roundtrips
                     between the United States and Heathrow.
                     9
                      These 13 gateways account for about 54 percent of all U.S.-London service. There are a total of 25 U.S.
                     gateways to London.
                     10
                      Airline Deregulation: Barriers to Entry Continue to Limit Competition in Several Key Domestic
                     Markets (GAO/RCED-97-4, Oct. 18, 1996).



                     Page 7                                                                          GAO/T-RCED-97-103
Figure 2: Markets in Which American and British Airways Either Currently Compete With Each Other and Provide Over 70
Percent of the Service or One of the Carriers Has a Monopoly on Nonstop Service, 1997




                                                                                                                                London


       Seattle (H)



                                                                                           Boston (H)


                                                                       Pittsburgh (G)     New York (H)
                                                             Chicago (H)               Philadelphia (H)
                                                                                Baltimore (G)


                                                                                       Raleigh (G)
                                                                            Charlotte (G)

        Phoenix (G)

                                    Dallas (G)



                                                                        Tampa (G)
                                                                          Miami (H)




                                         Note: “H” denotes service to Heathrow; “G” denotes Gatwick. According to American and British
                                         Airways representatives, under open skies the alliance would likely switch much of the current
                                         Gatwick service to Heathrow.




                                         As figure 3 shows, if the other six major U.S. airlines that fly
                                         internationally had access to Heathrow from their primary and secondary




                                         Page 8                                                                      GAO/T-RCED-97-103
hubs, competition would be enhanced in nearly all of these markets.11 This
would provide consumers with a wide range of service to Heathrow that
would compete with the alliance. Specifically, 6 of the 13 gateways would
have new nonstop service.12 In each case, the airline providing the service
would be supported by its domestic network: New York (Delta and TWA),
Chicago (United), Philadelphia (US Airways), Charlotte (US Airways),
Boston (US Airways), and Pittsburgh (US Airways).




11
  The other six major U.S. airlines’ primary hubs for transatlantic service are Chicago (United), Detroit
(Northwest), Newark (Continental), New York (Delta and TWA), and Philadelphia (US Airways). In
general, these airlines’ secondary transatlantic hubs are Atlanta (Delta), Houston (Continental),
Minneapolis (Northwest), Charlotte (US Airways), St. Louis (TWA), and Washington Dulles (United).
However, exceptions to this exist. For example, Delta currently serves Gatwick from both Atlanta and
its other international hub, Cincinnati. In addition, US Airways operates hubs in two other
gateways—Boston and Pittsburgh—that would otherwise be dominated by the alliance. United already
serves Heathrow with three daily flights from its secondary transatlantic hub at Dulles.
12
 The current bilateral limits the amount of service United can provide between Chicago and
Heathrow.


Page 9                                                                           GAO/T-RCED-97-103
Figure 3: U.S. Airlines’ Potential Nonstop and One-Stop Service That Would Compete Against the American-British Airways
Alliance If They Could Serve Heathrow From Their Primary and Secondary Hubs




                                                                                                                                  London


         Seattle




                                                                                             Boston (US)
                                               Minneapolis (NW)
                                                                            Detroit (NW)        New York (DL, TW)
                                                                         Pittsburgh (US)        Newark (CO)
                                                                                              Philadelphia (US)
                                                          Chicago (UA)
                                                                                      Baltimore
                                                                    Cincinnati (DL)
                                                   St. Louis (TW)
                                                                                         Raleigh
                                                                                      Charlotte (US)

              Phoenix                                                                                   CO     Continental
                                                                              Atlanta (DL)              DL     Delta
                                          Dallas                                                        NW     Northwest
                                                                                                        TW     TWA
                                                                                                        UA     United
                                              Houston (CO)                                              US     US Airways
                                                                            Tampa                              Nonstop service
                                                                                Miami                          One stop service




                                         Our analysis of current competitive conditions in the New York-Heathrow
                                         market indicates that because of the (1) size of the market, (2) large share
                                         of that market currently held by American Airlines and British Airways,
                                         (3) frequency of service in that market—13 flights a day—provided by the
                                         two airlines (compared to 2 daily flights by United and 2 daily flights by
                                         Virgin Atlantic), and (4) substantial portion of the market accounted for by
                                         time-sensitive business travellers, both airlines (Delta and TWA) that have
                                         hubs at New York JFK—as well as Continental from its hub at nearby
                                         Newark—would need to enter the market with several flights a day to
                                         ensure a sufficient number of competing flights. In the Boston and
                                         Chicago markets, new nonstop service would offset the effect on



                                         Page 10                                                                    GAO/T-RCED-97-103
competition caused by the joining of the two largest competitors in those
markets. In addition, new nonstop service in the Philadelphia, Charlotte,
and Pittsburgh markets would increase competition because British
Airways currently has a monopoly on nonstop service to London from
those gateways.

In addition, as figure 3 also shows, consumers in the other seven gateways
would have several new one-stop options competing with the alliance’s
nonstop service in those markets. Because British Airways currently has a
monopoly in four of these markets (Baltimore, Phoenix, Seattle, and
Tampa) and American a monopoly in another (Raleigh), this increase in
the number of one-stop options would produce an increase in competition
in those five markets. For example, if Northwest Airlines, which is one of
the largest carriers in Seattle, could serve Heathrow from its hub in
Minneapolis, consumers in Seattle would have more and better connecting
opportunities to Heathrow and hence there would be more competition
than today. Similarly, consumers in nongateway cities, such as Des Moines
or Fargo, would experience an increase in the number of one-stop options
offered by competing airlines to Heathrow than are available today.

While the increase in one-stop service options would increase competition
in five of the seven gateways, for the other two gateways—Dallas and
Miami—it would likely not offset the reduction in the number of
competitors providing nonstop service. In the Dallas-London market,
American Airlines and British Airways are currently the only competitors
providing nonstop service. In the Miami-London market, the number of
nonstop competitors would fall from four to three, and the alliance would
bring together not only the two largest carriers in the market but the only
carriers in the market currently serving Heathrow.13 In both Dallas and
Miami, Delta is the second largest carrier next to American and thus is
best positioned to provide one-stop service via Atlanta and/or Cincinnati.
Nevertheless, time-sensitive business travelers in the Dallas-London and
Miami-London markets will have fewer nonstop options and thus will
likely pay higher fares for nonstop service. As a result, DOT will need to be
well-positioned to monitor competition in these and other markets, and as
we have recommended, collect the data necessary to do so.

While acknowledging that new entry by U.S. carriers is critical to ensuring
competition, Britain’s Office of Fair Trading (OFT) recently concluded that
U.S. carriers would only need 12 daily roundtrips to Heathrow—service

13
 Starting June 30, 1997, however, Virgin Atlantic will begin serving Miami from Heathrow. Currently,
Virgin Atlantic serves Miami from Gatwick.



Page 11                                                                        GAO/T-RCED-97-103
    that would be phased in over the next few years.14 OFT focussed its
    analysis on service that would be needed to ensure that the alliance does
    not reduce competition, and therefore only considered the six gateways
    where both American Airlines and British Airways compete with one
    another.

    Based on our discussions with representatives of the six U.S. airlines
    seeking access to Heathrow to compete with the American/British Airways
    alliance, the cumulative number of daily roundtrips to Heathrow that they
    believe they would need to effectively compete totals 38 daily roundtrips.
    DOT analysts indicated during the early stages of negotiations that U.S.
    airlines would need at least 30 daily roundtrips to Heathrow to ensure that
    an open skies agreement resulted in an increase in competition. Because it
    is the subject of ongoing negotiations, we do not believe it would be
    appropriate for us to specify a precise number of daily roundtrips to
    Heathrow that may be needed. Ultimately, DOT will have to make this
    determination through its review and negotiation process. Our analysis of
    existing DOT international traffic data and review of the analyses
    conducted by the six U.S. airlines as well as by the potential alliance
    partners and other interested parties suggests to us that the basis for an
    agreement that increases competition would likely have to
    accommodate—but not necessarily be limited to—the following
    simultaneous to the alliance’s approval:

•   at least three daily roundtrips to Heathrow for each of the three U.S.
    airlines with primary hubs in the New York area—Continental, Delta, and
    TWA;15
•   at least two daily roundtrips to Heathrow for each of the other three U.S.
    airlines—Northwest, United, and US Airways—from their primary hubs
    (Detroit, Chicago, and Philadelphia, respectively) to effectively utilize
    those hubs’ competitive strengths;
•   at least two additional daily roundtrips to Heathrow for Delta for use from
    Atlanta and/or Cincinnati in order to maximize the one-stop competition
    for consumers in the Dallas-London and Miami-London markets;16

    14
      A roundtrip requires two slots—one for arrival at Heathrow and one for a return departure. Thus, 12
    daily roundtrips is equivalent to 24 daily slots or 168 weekly slots. As of June 1997, the potential
    alliance partners operate a total of 38 daily roundtrips between the United States and Heathrow, which
    is the equivalent of 532 weekly slots.
    15
     In our recent report on barriers to entry in the domestic airline market, we reported that new
    entrants generally needed a minimum of three daily roundtrips to effectively compete in the New York
    market. See Airline Deregulation: Barriers to Entry Continue to Limit Competition in Several Key
    Domestic Markets (GAO/RCED-97-13, Oct. 18, 1996).
    16
     As discussed earlier, Delta is the second largest carrier in Dallas and Miami after American. In 1996,
    Delta accounted for about 20 percent of all enplanements at Dallas and about 10 percent at Miami.



    Page 12                                                                          GAO/T-RCED-97-103
                        •   at least one additional daily roundtrip to Heathrow for US Airways from
                            each of its three secondary hubs—Boston, Charlotte, and Pittsburgh—that
                            would otherwise be dominated by the alliance; and
                        •   at least one daily roundtrip to Heathrow for Continental, Northwest, and
                            TWA from their secondary transatlantic hubs (Houston, Minneapolis, and
                            St. Louis, respectively).

                            Regardless of the precise number that may ultimately be agreed upon,
                            because of the size of the U.S.-U.K. market and the fact that the market has
                            been heavily regulated for 2 decades, significant new entry would likely
                            provide substantial benefits for consumers in both countries in terms of
                            lower fares and better service and for the U.S. airline industry in terms of
                            increased revenues.


                            Even if agreement can be reached on the number of daily roundtrips to
Barriers to Entry           Heathrow that the six U.S. airlines would need to ensure increased
Exist at Heathrow           competition, capacity constraints exist at Heathrow that do not exist at the
That Are Difficult to       airports in the countries where the United States has previously signed
                            open skies agreements. As a result, the limited number of available takeoff
Address                     and landing slots, gates, and facilities makes a large-scale influx of new
                            service unlikely at Heathrow. Officials of the airport authority that
                            manages Heathrow emphasized to us that the airport is generally operating
                            at capacity and that airlines’ demand for slots during peak-period times of
                            the day exceeds the available supply. Similarly, they told us that because
                            of facility constraints, the airport authority announced plans several years
                            ago to build a fifth terminal at Heathrow. These officials noted that under
                            open skies, U.S. airlines seeking to serve Heathrow for the first time would
                            be given priority as “new entrants” and would be allotted slots as they
                            came available. They emphasized that while some slots may come
                            available in the short-term, it would likely take several years under current
                            slot allocation procedures for the number of slots needed to accommodate
                            a significant amount of new entry by the six U.S. airlines to come
                            available.

                            As a practical matter, therefore, in addition to acquiring some slots under
                            current procedures, the six U.S. airlines will likely need to have slots
                            transferred to them from American Airlines and British Airways.17 While
                            such a transfer may involve a substantial portion of the over 500 weekly
                            slots currently used by American Airlines and British Airways in the

                            17
                             In some cases, other sources of slots for U.S. airlines may also exist. For example, Lufthansa is
                            currently using slots of its alliance partner United to accommodate three daily roundtrips by Lufthansa
                            between Heathrow and Germany.



                            Page 13                                                                         GAO/T-RCED-97-103
U.S.-Heathrow market, British Airways could draw from its holding of
about 3,000 weekly slots that it uses to serve the domestic U.K. market, the
European continent, Africa, and the Middle East, to replace those slots
lost via a transfer to U.S. airlines as well as to increase service in some
U.S.-Heathrow markets. To counter the alliance’s ability to draw on British
Airways’ substantial slot holdings, most U.S. airlines could also potentially
draw on their alliance partners’ slot holdings at Heathrow and all six U.S.
airlines could acquire additional slots over time as they become available
under current procedures. Nevertheless, slots provided to the six U.S.
airlines will need to be at commercially viable times, such as peak morning
times, to better ensure competitive service. Finally, in addition to
obtaining slots, the other U.S. airlines will need sufficient access to
existing gates and facilities at Heathrow, because the planned construction
of the fifth terminal has been delayed.

However, significant obstacles exist that make it difficult to resolve these
issues. Both American Airlines and British Airways have indicated that
even if they agree to give some of their slots to new entrants, they would
expect to be paid the fair market value for those slots. Requiring the new
entrant U.S. airlines to purchase slots from American Airlines and British
Airways has competitive implications because it increases the costs of
market entry. Furthermore, EU officials interpret their regulations, which
apply to Heathrow, as prohibiting the buying and selling of slots. British
officials contend, on the other hand, that flexibility may exist in the rules
to accommodate the payment to the alliance partners for any slot transfer
and that the EU should consider allowing the buying and selling of slots at
high-demand airports such as Heathrow in the long-term. This
disagreement, and the existence of the respective authorities of the United
Kingdom and the EU to ensure competition, has sparked a major debate
between the United Kingdom and the EU.

It is uncertain whether EU officials will ultimately agree to accommodate
a one-time transfer of slots from the proposed alliance to U.S. airlines.
However, EU officials told us that their decision as to whether to adopt a
buy-sell rule in the longer term is a separate issue. Our October 1996
report on domestic competition found that DOT’s adopting such a buy-sell
rule in 1985 at the four U.S. slot-controlled airports resulted in a decrease
in competition at three of those airports.18 We reported that a few of the
large, incumbent carriers were allowed to purchase most of the available
slots and increase their slot holdings to such an extent that they could

18
 The four U.S. slot-controlled airports are Chicago’s O’Hare, New York’s JFK and LaGuardia, and
Washington’s National.



Page 14                                                                       GAO/T-RCED-97-103
limit other airlines’ access to domestic routes beginning or ending at
National, LaGuardia, and O’Hare. This has contributed to higher fares at
these airports. Specifically, we found that, compared to 33 other large U.S.
airports, fares in 1995 were 46 percent higher at National, 35 percent
higher at LaGuardia, and 24 percent higher at O’Hare.

In addition to slots, facility constraints at Heathrow persist. The airport
authority’s plans for a fifth terminal have been delayed by local community
opposition and environmental concerns. The British government began
holding public hearings in May 1995 on the need for and potential noise
and environmental impacts of constructing the new terminal but,
according to British officials, the government will not complete its work
until mid-1998 due to the strong opposition. As a result, according to
airport authority officials, the first phase of the new terminal will likely not
open until the fall of 2004, which is 18 months later than originally
planned. In the short term, therefore, the planned new terminal will not
have a bearing on efforts to ensure that adequate facility space is available
for U.S. airlines if an open skies agreement is reached in the near future.

As a result of the challenges inherent in addressing the barriers to entry at
Heathrow, significant intergovernmental agreement will be needed well
beyond the scope of a traditional open skies accord. In particular,
additional agreement will be needed between the United States, United
Kingdom, and EU on issues regarding the transfer of Heathrow slots and
use of its facilities to ensure substantial new entry by U.S. airlines at the
same time American Airlines and British Airways commence joint
operations. Otherwise, consumers in both countries will likely not enjoy
the full benefits of lower fares and better service that open skies
agreements are designed to bring.


Mr. Chairman, this concludes our prepared statement. We would be glad
to respond to any questions that you or any member of the Subcommittee
may have.




Page 15                                                       GAO/T-RCED-97-103
Related GAO Products


              International Aviation: DOT’s Efforts to Promote U.S. Air Cargo Interests
              (GAO/RCED-97-13, Oct. 18, 1996).

              Airline Deregulation: Barriers to Entry Continue to Limit Competition in
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              International Aviation: DOT’s Efforts to Increase U.S. Airlines’ Access to
              International Markets (GAO/T-RCED-96-32, Mar. 14, 1996).

              International Aviation: Better Data on Code-Sharing Needed by DOT for
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              International Aviation: Airline Alliances Produce Benefits, but Effect on
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              International Aviation: DOT Needs More Information to Address U.S.
              Airlines’ Problems in Doing-Business Abroad (GAO/RCED-95-24, Nov. 29,
              1994).

              International Aviation: New Competitive Conditions Require Changes in
              DOT Strategy (GAO/T-RCED-94-194, May 5, 1994).


              International Aviation: Measures by European Community Could Limit
              U.S. Airlines’ Ability to Compete Abroad (GAO/RCED-93-64, Apr. 26, 1993).

              Airline Competition: Impact of Changing Foreign Investment and Control
              Limits on U.S. Airlines (GAO/RCED-93-7, Dec. 9, 1992).

              Airline Competition: Effects of Airline Market Concentration and Barriers
              to Entry on Airfares (GAO/RCED-91-101, Apr. 26, 1991).




(341526)      Page 16                                                     GAO/T-RCED-97-103
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