Hub Airports and Government Policy Fred Lazar Schulich School of Business York University March 4, 2011

1. Hub Airports and Government Policy Fred LazarSchulich School of BusinessYork UniversityMarch 4, 2011

2. Connectivity and Productivity • Networks and externalities • Aviation • Telecommunications • Financial services • Energy transportation

3. Connectivity and Productivity Economy can function without network industries Economy cannot function without network industries External economies and productivity

4. Aviation Externalities IATA: “Policy-makers must understand that a well-designed aviation network creates huge benefits – for users, and for growth and investment in the wider economy. Indeed, an extensive air transport network represents one of a country’s essential infrastructure assets – like banking or telecoms network. It is a vital component for economic development and growth.”

5. Aviation Externalities Transport Canada (2006):  “Air transportation is an essential tool to connect Canadians with one another and the world: it directly contribute to a dynamic economy moving people and goods, supports tourism and economic development, produces significant value by connecting all parts of Canada, creates and maintains specialized, highly paid employment throughout Canada, and supports Canada’s trade agenda.”

6. Typology of Hubs • International gateway (Tier 1): Full range of scheduled passenger, freight and maintenance services; inter-regional/inter-continental connections with a preponderance of long-haul flights • National hub (Tier 2): National interlinking role; limited inter-regional/inter-continental connections • Regional hub (Tier 3): Intra-regional networks; ­connected to Tier 1 and Tier 2 hubs

7. Typology of Hubs • International gateway airports generate more value for their respective regional and national economies than national hubs, regional hubs, or stub airports (the end-points of spokes from hubs)

8. Tier 1 Hubs John Bowen: “Hub cities have important economic development advantages for certain types of economic activity. These advantages reflect two key distinctions that hub cities share: (1) the concentration of large passenger and cargo flows and (2) the high degree of connectivity with other points in domestic and international airline networks. The way in which these advantages intersect with economic development has been described as “circular and cumulative” to the extent that additional air services facilitate development which in turn stimulates demand for further air services. This virtuous cycle tends to reinforce and perpetuate the privileged position that hub cities enjoy.”

9. Tier 1 Hubs Tier 1 hubs, with very few exceptions, have developed because major carriers use them as the principal hubs for their networks See Table 1 With the exception of Orlando, each of the largest airports serves as a hub for at least one major airline Hub carriers are important

10. Canadian Airports Toronto barely makes the top 40, coming in at number 38 Montreal, with a population base comparable to Seattle, Minneapolis, Phoenix, Denver, San Francisco and Rome, does not even come close to making the top 40 Neither does Vancouver, although its population base is much smaller than all the cities on this list with the exceptions of Orlando, Charlotte, Frankfurt and Munich

11. Tier 1 Hubs Large population base is important, but definitely not decisive for an airport to become a Tier 1 hub Geographic location, infrastructure/capacity, costs, and the competitive success of the hub carrier seem to be more critical

12. Evolution of Tier 1 Hubs Given geography, traffic densities, and the current sizes of airports and hubs, it appears reasonable to surmise that most of the Tier 1 hubs (25 at most) likely will be located in North America (4-8), Europe (3-5), Asia (4-8), the Middle East (1-2), Latin America (1)

13. Star Alliance Hubs Table 2 Neither YYZ nor YVR ranks high in terms of total number of passengers or passengers per capita If either one could reach the level of passengers per capita of some of the secondary hub airports (Copenhagen, Vienna, Brussels), traffic levels would be 65% to 100% larger for YYZ, and 30% to 70% larger for YVR   For Star Alliance, some of the most likely candidates to become Tier 1 hubs are: Bangkok, Beijing, Chicago, Frankfurt, Los Angeles, Munich, New York, Sao Paulo, Singapore, Shanghai, Tokyo, Washington, and perhaps Toronto and Vancouver

14. Economics of Hubs Hub system makes it possible, for each flight, to combine connecting traffic and point-to-point traffic  As traffic flows increase, the hub carrier increases the number of flights to any given destination As soon as a carrier offers a number of flights that is greater than half of all flights offered by all the airlines flying to this destination, it becomes more attractive than its competitors, thus improving load factor and market share

15. Economics of Hubs If hub carrier and hub airport do not achieve the density economies and the hub carrier is unable to gain a frequency advantage, both begin to fall behind and both risk becoming marginalized over time Neither YYZ nor YVR are likely to meet the same fate as Pittsburgh or St. Louis Unless their hub carrier, Air Canada, continues to expand the networks both in scope and in depth, and hence the connectivity of both YYZ and YVR, both airports might continue their slide in the global rankings of airports

16. Conclusion Re. Hubs Matters to Canadians whether they connect through Toronto or Vancouver or Montreal; or they have to make an additional stop and change planes and airlines in order to travel through a foreign hub If Air Canada’s network becomes smaller, connectivity becomes more difficult for Canadians The resulting economic losses over time would dwarf the initial economic losses stemming from a retrenchment in Air Canada’s network and a decline in the competitive positions of YYZ and YVR

17. Challenges Infrastructure costs Competition

18. Infrastructure Costs • Government Policies: airport rents, ATSC, fuel tax, “privatization” of airports and Nav Canada • Tables 3 and 4 • Cumulative effects of the taxes and fees range between 16% and 33% of the total fares for AC, 21% and 41% for WJ • Leakages to US border airports • Leakages to US, Middle East and Asian hubs more critical

19. Infrastructure Costs UAE investing in excess of US$35 billion in airports Sheikh Mohammed bin Rashid Al Maktoum, the Vice President and Prime Minister of the UAE and the Ruler of Dubai: “Aviation and transport infrastructure is the fundamental catalyst for the creation of global cities.”

20. Competition • Trade agreements (GATT, NAFTA) include codes on subsidies, dumping and safeguards • NAFTA includes side agreements on environment and labour • ATAs do not, although capacity controls can prevent capacity dumping • Ineffective against subsidies and excessive competition (Safeguards) • No minimal standards to prevent race to bottom

21. Competition • If Canada is to benefit from the continued growth of the aviation sector, competition must be fair • This begs the question: how do we define fair or level playing field? • A level playing field in the aviation industry is critical, as this will impact the future evolution of hub airports and route networks

22. Potential Consequences Repercussions of success or failure in YYZ and YVR becoming Tier 1 hubs

23. Potential Consequences • 5% increase case results in an aggregate increase of 2.3 million passengers, which result in approximately:  • 24,000 more jobs; • $2.4 billion more in economic output ($930 million in GDP); and • $320 million more in taxes

24. Potential Consequences • 3% decrease case results in an aggregate decrease of 1.4 million passengers, which result in approximately:  • 14,500 fewer jobs; • $1.4 billion reduction in economic output; and • $190 million less in taxes

25. Potential Consequences Both cases ignore catalytic impacts on productivity Neither considers impacts on passenger traffic at other Canadian airports

26. Policy Implications Re-examine all policies that impact the aviation industry directly or indirectly and make the changes necessary to promote Canadian airlines and airports The starting point for the new policy direction is the termination of the ground rents, the ATSC, and the excise tax on jet fuel Look at the funding of infrastructure

27. Policy Implications • Consider including in all ATAs countervail and dumping provisions similar to the ones in the NAFTA and the GATT, and codes on labour, etc. • These provisions would level the playing field for Canadian airlines and airports by eliminating the competitive distortions in the market resulting from aggressive subsidization policies by a small number of foreign governments