Does Sunk Cost Affect Prices? Evidence from the U.S. Airline Industry

35 Pages Posted: 5 Mar 2020 Last revised: 26 Oct 2021

See all articles by Long Shi

Long Shi

Xi'an Jiaotong University; Xi'an Jiaotong University

Qihong Liu

University of Oklahoma - Department of Economics

Myongjin Kim

University of Oklahoma

Date Written: October 8, 2021

Abstract

In contrast to the extensive literature on behavior bias by individuals, studies on behavior bias by firms have been relatively scarce. We explore the possibility of the latter in the context of U.S. airlines, where fuel hedging leads to lump sum gain or loss which is sunk to airlines' pricing decisions. Our results show that the (sunk) hedging gain or loss affects airlines' ticket prices. In particular, a 10% reduction in the reported fuel cost (due to hedging gain) leads to a 2.2% reduction in ticket prices. Moving onto non-price decisions, we find that hedging gain leads airlines to use larger aircrafts and reduce airtime of their flights, but has no impacts on the number of routes and flights which airlines operate. Our results provide empirical evidence that fixed/sunk costs can affect firms' price and non-price decisions, establish a link between financial market and product market competition, and have important welfare/policy and managerial implications.

Keywords: Airlines; Fuel hedging; Ticket pricing; Sunk cost fallacy; Full-cost pricing

JEL Classification: D43, G32, L13, L93

Suggested Citation

Shi, Long and Shi, Long and Liu, Qihong and Kim, Myongjin, Does Sunk Cost Affect Prices? Evidence from the U.S. Airline Industry (October 8, 2021). Available at SSRN: https://ssrn.com/abstract=3523982 or http://dx.doi.org/10.2139/ssrn.3523982

Long Shi

Xi'an Jiaotong University ( email )

28 West Xianning Road
Beilin District
Xi'an, Shaanxi 710049
China

Xi'an Jiaotong University ( email )

28 West Xianning Road
Beilin District
Xi'an, Shaanxi 710049
China

Qihong Liu (Contact Author)

University of Oklahoma - Department of Economics ( email )

Norman, OK 73019-2103
United States
405-325-5846 (Phone)

HOME PAGE: http://qliu.oucreate.com

Myongjin Kim

University of Oklahoma ( email )

307 W Brooks
Norman, OK 73019
United States

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