Does Product Differentiation Soften Price Reactions to Entry? Evidence from the Airline Industry

Journal of Transport Economics and Policy (JTEP), Volume 46, Number 2, May 2012 , pp. 189-204

26 Pages Posted: 10 Sep 2015  

Cristian Huse

Stockholm School of Economics; Swedish House of Finance

Alessandro V. M. Oliveira

Aeronautics Institute of Technology

Date Written: November 12, 2010

Abstract

We examine the effects of entry on the pricing behavior of incumbent legacy airlines in a market where the newcomer is a rapidly expanding low-cost carrier - the Brazilian airline industry in the early 2000s. We estimate the timing and the determinants of price responses to entry allowing them to be asymmetric and controlling for product differentiation. We also propose a decomposition procedure of time fixed-effects to better control for unobserved heterogeneity in prices: by accounting for time-varying route-, city- and carrier-specific unobservables, we find that incumbents do price-respond to actual entry but not to potential entry. We provide suggestive evidence that the lack of preemptive behavior is due to the fact that financially distressed incumbents with virtually no bankruptcy protection were not able to engage in costly deterrence against a newcomer with deep pockets and committed to expansion. Our most important results uncover product differentiation effects stemming from more convenient departures during peak hours and nonstop service, which significantly softened actual price responses.

Keywords: Entry, Price Reactions, Asymmetry, Time-Varying Fixed-Effects

JEL Classification: L11, L13, L93

Suggested Citation

Huse, Cristian and Oliveira, Alessandro V. M., Does Product Differentiation Soften Price Reactions to Entry? Evidence from the Airline Industry (November 12, 2010). Journal of Transport Economics and Policy (JTEP), Volume 46, Number 2, May 2012 , pp. 189-204. Available at SSRN: https://ssrn.com/abstract=1709070 or http://dx.doi.org/10.2139/ssrn.1709070

Cristian Huse

Stockholm School of Economics ( email )

PO Box 6501
Stockholm, 11383
Sweden

Swedish House of Finance ( email )

Drottninggatan 98
111 60 Stockholm
Sweden

Alessandro Vinícius Marques de Oliveira (Contact Author)

Aeronautics Institute of Technology ( email )

Praça Marechal Eduardo Gomes, 50
São José dos Campos, 12.228-900
Brazil

HOME PAGE: http://www.ita.br

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