How do Incumbents Respond to the Threat of Entry on Their Networks? Evidence from the Major Airlines

NET Institute Working Paper No. 04-04

32 Pages Posted: 14 Nov 2004  

Austan Goolsbee

University of Chicago - Booth School of Business; National Bureau of Economic Research (NBER)

Chad Syverson

University of Chicago Booth School of Business; National Bureau of Economic Research (NBER)

Date Written: October 2004

Abstract

This paper examines how incumbents respond to the threat of entry of competitors, as distinguished from their response to competitors' actual entry. It uses a case study from the passenger airline industry specifically, the evolution of Southwest Airlines' route network - to identify particular routes where the probability of future entry rises abruptly. When Southwest begins operating in airports on both sides of a route but not the route itself, this dramatically raises the chance they will start flying that route in the near future. We examine the pricing of the incumbents on threatened routes in the period surrounding such events. We find that incumbents cut fares significantly when threatened by Southwest's entry into their routes. This is true even after controlling in several ways for airport-specific operating costs. The response of incumbents seems to be limited only to the threatened route itself, and not to routes out of nearby competitor airports where Southwest does not operate (e.g., fares drop on routes from Chicago Midway but not Chicago O'Hare). The largest responses appear to be restricted to routes that were concentrated beforehand. Incumbents do experience short-run increases in their passenger loads concurrent with these fare cuts. This is consistent with theories implying incumbents will try to generate some longer-term loyalty among current customers before the entry of a new competitor. We examine evidence relating this demand-building motive to frequent flyer programs and find suggestive evidence in favor of this notion. There is only weak evidence that incumbents increase capacity on the routes.

Suggested Citation

Goolsbee, Austan and Syverson, Chad, How do Incumbents Respond to the Threat of Entry on Their Networks? Evidence from the Major Airlines (October 2004). NET Institute Working Paper No. 04-04. Available at SSRN: https://ssrn.com/abstract=618261 or http://dx.doi.org/10.2139/ssrn.618261

Austan Goolsbee (Contact Author)

University of Chicago - Booth School of Business ( email )

5807 S. Woodlawn Avenue
Chicago, IL 60637
United States
773-702-5869 (Phone)
773-702-0458 (Fax)

National Bureau of Economic Research (NBER)

1050 Massachusetts Avenue
Cambridge, MA 02138
United States

Chad Syverson

University of Chicago Booth School of Business ( email )

1126 East 59th Street
Chicago, IL 60637
United States

National Bureau of Economic Research (NBER)

1050 Massachusetts Avenue
Cambridge, MA 02138
United States

Paper statistics

Downloads
345
Rank
69,391
Abstract Views
2,304