by Caixia Shen
Code sharing is an agreement between two (or three, in one case) carriers, in which one carrier (the operating carrier) allows another carrier (its code-share partner, the marketing carrier) to market and sell seats on some of the operating carrier’s flights under the marketing carrier’s reservation code. When a proposal of code sharing between two major airlines is initiated, a debate often ensues between the policy markers (e.g., the U.S. Department of Justice). The U.S. Department of Justice hesitates to approve such proposals due to concerns that these agreements may reduce competition and hence cause a loss of consumer welfare given the fact that potential code sharing partners already have high market shares. However, carriers have claimed that passengers benefit from code sharing because it provides more product choices and destinations. This paper lays out the first step and explicitly models these code sharing activities and quantifies their effects on consumers, carriers and social welfare. Our results show that consumers perceive code sharing product as a lower quality product. However, if code sharing creates new products, consumer surplus increases by a large amount. If code sharing does not create new products, consumer surplus reduces due to lower quality. Firms always benefit in the case of code sharing. Thus, the policy makers may need to pay more attention in markets where code sharing would not generate new products. In addition, this paper explicitly models how partner firms share their profits. The profit sharing rule between partners is 92% obtained by operating carrier.
The following section is a Q&A with Professor Shen
- Please briefly describe the main results of your paper. Are there any particular aspects of the data that should be noted?
The main results show the firms’ profit sharing rule (8% of profit obtained by the marketing carrier and 92% acquired by the operating carrier from a round-trip ticket). In the case where code sharing creates new products, both consumer benefit and the firm’s profit increase. Thus, the social welfare increases. In this case, the Department of Justice may approve such a code sharing agreement. The dataset is from DB1B, a 10% random sample of airline tickets from U.S. reporting carriers in a given quarter for every year. This dataset allows us to identify carriers, airfares and other characteristics for each segment. This makes the identification of parameters easier, since we observe both code-sharing tickets and non-code-sharing tickets in the same market.
- How did you become interested in the question of airline code sharing? Why is this topic important?
My thesis advisor, Marc Rysman, from Boston University introduced me to a reduced-form article on airline code sharing when I was a second-year graduate student. I have been interested in this topic since then. I am still interested in airline code sharing and plan on writing more articles about it. This topic is important because it motivates one’s thinking on collusive behaviors between players. Empirical IO method plays an important role in understanding issues, such as airline code sharing, in antitrust topics.
- How does this paper build upon and differ from prior literature on code sharing among airlines?
This paper builds on previous literature. For example, Ito and Lee (2004) examines prices of code sharing tickets. Gayle (2012) investigates whether code sharing eliminates double marginalization. This paper particularly models code sharing into consumer utility function and firm’s marginal cost. This allows us to estimate the consumer’s direct utility from code sharing tickets and the firm’s cost reduction by code sharing. In addition, we model a profit-sharing rule, which is new to the literature.
- What are some of the policy implications that arise from this work?
The policy implication is that the policy makers should be cautious on approvals of code sharing agreement in markets where no new products are created.
- What directions might you suggest for further research?
Code sharing between a major airline and a regional airline has not been paid enough attention. Future research is needed, for example, to investigate how this type of route/network extension affects consumers’ utility.