Factors That Determine the Pricing of Airline Ticket - Essay Example

Factors that Determine the Pricing of Airline Ticket The price of the airline ticket is the most important consideration for the flying public or to the people who are the frequent airline consumers. Understanding the process by which air travel prices are set can be so complex because it is unstable and constantly changing all the time. The price for a certain route at a certain date and point in time can be very different from the ticket price set at another time. Having the same flight and class section of the plane also do not ensure that passengers have the same cost of airfare. A study was conducted wherein the airfares were monitored by recording the amount paid by each passenger in cents per miles travelled. It was noted that ticket prices are relatively higher in 1978, wherein passengers disburse 19 cents per mile. As compared to the present price, which is 14 cents per mile, it is relatively higher. Thus, there is an increase in the influx of passengers (Bonsor, 2006). Airfare prices and travel time are considered the most important factors for passengers as compared to in-flight amenities. As William O’ Conner, an economist stated that “The speed, comfort, and safety aspects of the journey, whichever airline a passenger selects, are more likely to be the same” (1995). Thus, the amenities are not the priority of passengers in choosing the flight. People based their choice of flight on factors such as having the cheapest ticket price at the same time having the most convenient times of departure and arrival. The consequence is for airlines to increase the number of flights for a certain routes and maintain the price like the competitors (Kons, 2000). Reservation system serves a crucial role in an airline company. By being able to predict the passenger’s need and willingness to pay, the system sets up the scheme of pricing and setting from which passengers have no control on the differences the prices of tickets belonging to even the same class (Watson, 2004). Airfare Pricing Pricing of airline tickets is a very complex process that is affected by various factors and considerations. These include the date of purchase and reservation wherein tickets bought several months before the flight schedule is normally lower in price than when it is purchased a day before the flying date. Normally these trend is known to the flying public and for those who wanted to grab these opportunity of buying cheaper tickets they will get one especially those people who travel regularly every week and month. Seat classification or the class is another factor being considered in flight fare determination. Because of the better comfort and amenities provided in the first class seat, normally it has a higher price. More spacious, better food and drinks and entertainment facilities can be observed in higher class seats (Bonsor, 2006). Another factor affecting ticket price is the destination. Generally, the farther the distance travelled, the higher the cost of fare, although there are some exceptional cases on this. The more popular the place of destination, the higher the price and this is simply because there are more people flying to the place and therefore the law of supply and demand rules here. As the demand goes up, normally the price of commodities or service also goes up. The date and time of flight also affects the fare price. During peak season like summer, wherein lots of people are going on holiday and leisure trips, flight fare increases, ultimately the demand during this time is big. In terms of time of flight, most of the people do not want to travel very early in the morning so airline companies try to lower the cost of ticket to attract the travellers. It is expected that the fare price is higher during peak hours (Bonsor, 2006). Fuel cost is the second biggest cost of airline companies next to labour. It is a common knowledge that the price of fuel, including aviation fuel, in the world market is very unstable and tends to go up every now and then. The additional operational cost incurred by the airline companies will be passed through the consumer by increasing the cost of fare and this is usually happening to the other types of public transport system elsewhere. In any commercial airline company, the competition often dictates the prices. Companies of the same nature of business monitor the prevailing price amongst them through the use of advanced computer software. Another factor pertinent in the determination of airfare prices is the special discount and prices given to specified passengers like the senior citizens. This also applies to public servants, officials and corporate passengers. The size of the plane or the capacity and the frequency of flight schedule also affect the airfare. The bigger the plane, the more convenient it is for the passenger to travel hence the ticket price is higher. Most of the passengers choose the airlines that have the most number of flights, due to availability of flights that can suit their schedule (Bonsor, 2006). Airline companies operate to attain different goals. To be able to reach such goals they make use of advanced technologies. One of these is the use of complicated computer systems that enhances their operation and service. To be able to minimize having vacant seats in a flight and maximize the cost of flying are two of the main objective of these companies. To be able to do this, discounts are offered for those passengers that fill these available seats. Another goal to serve is the increase the number of passengers by bringing in new customers. Another is to build a relationship of loyalty for those passengers that always fly whether domestic or international. To this effect, different commercial promotions and membership offers to their valued passengers are given. This in turn is also another contributing factor for the complexity of the pricing system. For example, two passengers with membership package like United’s Mileage Plus bought a ticket at the same time and for the same route. One can upgrade to the business class while other cannot. This is due to the differences in the membership plan they have with the company. Another type of promotion given to passengers are incentives such as free accommodation to partner hotels or free ticket for a companion in return for flying at the days and hours of the day that has the least passengers. This is also done for passengers that book flights in advance or through the internet. Airline companies offer special packages in the internet during the late hours at night for those passengers that book flights. Another factor that adds up to intricate system of airfare pricing is the booking of group of seats by agencies for third parties. Usually such transactions that are called “bucket shops” are discounted, thus, price scheme is also different from other groups. The system of pricing for airline companies evolved into a very complex relationship between contributing factors resulting to a diverse scheme that at times no two passengers have the same expenses for a certain trip. This also resulted to a very dynamic market wherein not one factor can predict the price, for example, the route. Due to this, it may cost less to travel from Boston to New York through London rather than taking a direct route which is shorter in distance. Finding cheapest fare for a certain route has become a very complex problem to solve due to the interplay of different factors with intricate and overlapping effects. Thus, through arithmetical terms, the problem at hand has no tangible solution even if all the pertinent data are available. A solution cannot be attained even through the use of advance technologies for interpolation available at present time (The Mathematical Association of America, 2006). Supply and demand Based on conducted study, supply and demand is the most important factor that dictates the airfare prices and not on the number of miles travelled and distance. It is one of essential concept in economics and in the study of the market dynamics. To be able to understand and predict the possible behaviour of factors in the market, knowing the concepts of supply and demand is the basic knowledge to be learned. Demand is the quantity of product and services that the buyers require. The amount of product or services that the buyer is willing to buy at a particular price is reflected by the quantity of demand. Demand relationship represents the significant interaction between the price and the quantity demanded. It also dictates the equivalent price of a certain product. Supply determines the value of a certain product in the market, while quantity supplied determines the amount of products that can be given at a particular price. The interaction of price and quantity supplied is the supply relationship. Based on the definition, supply and demand dictates the price. Price is the consequence of the dynamics between supply and demand. This interaction also affects the distribution of resources. The theory of supply and demand determines the cost-effective distribution of resources (Investopedia, 2006). In an airline company, therefore like any other commerce, supply and demand dictates the prices and not the mileage. An example is a the roundtrip from San Francisco to Boston costs $2,350 while US to Japan only costs $795 both for economy class which is less than half although the route is longer (The Mathematical Association of America, 2006). The Law of Demand In the law of demand, the higher the price for certain products or services, the demand for that product decreases if all other factors are constant. Thus, there would be less demand for goods in the market that are relatively expensive compared to its competitors. When there is less demand for a certain product, price increases and results to an increase in the opportunity cost. This then, will ultimately result to decrease in the number of consumers purchasing the said product because of priorities. There consumers will chose to buy products that will answer particular needs rather than buy a certain product with higher price and sacrifice buying the products that are relatively of more value in their life (Investopedia, 2006). The law of demand is represented by the Figure which is a downward slope.   Source: (Investopedia, 2006) Figure 1. The slope demonstrating the Law of Demand. Points in the curve represents a direct negative correlation relationship between the two components namely the quantities demanded (Q) and price (P). At point A, the quantity demanded will be Q1 and the price will be P1, and so as the other points. This shows that an increase in the price of the goods will result to the decrease the quantity of products demanded (A), and the decrease in the price of products, the more the goods will be in demand (C) (Investopedia, 2006). The Law of Supply The Law of Supply dictates the quantity of products or services that will be sold at a given price. It is represented graphically by a positive slope showing a direct relationship between the price and the quantity of products that the producers are willing to supply at a given price. Producing products with higher prices create more profits (Invetopedia, 2006). Source: (Investopedia, 2006) Figure 2. The slope demonstrating the Law of Supply Points in the curve denoted direct positive correlation between the two components quantities supplied (Q) and price (P). At point B, the quantity supplied will be Q2 and the price will be P2, and so as the other points. This curve denotes that as the price increases, more goods are supplied (Invetopedia, 2006). In the airline business, one example that can demonstrate the law of supply is the season. Demand is most rigid during the two peak seasons for travel which are May to August and November to January wherein people travel the most (Wallenberg 2000; Watson, 2004). Market power In the course of studying the market dynamics of airline industry, it was noted that in the 1970s deregulation of the airline industry in the U.S. was undertaken because the government believed that development of market power in the industry could not be possible. This is because it was aimed to have a perfect competition among the airline companies and a monopoly of the market will be prevented (Bailey and Panzar, 1981). Contracting ideas claimed that perfect contestability ruled out the effect of concentration in route. This has negative effect in the prices and this is attracting on the part of the company owners. In entering into a new route, basically very minimal problems will be encountered because operating cost in a specified route is low. Only advertising has a significant addition to the sunk costs in relation to route. Although this is the case, there are other costs which are not related to route. Another concern in the market is the absence of barriers in this type of business, thus, superseding rules and market coverage almost do not exist. Also, one of the most important is the invested capital. For any airline company, it is largely the aircraft, which are mostly mobile. Although deregulation was the practice since 1970, studies showed indications that the airline industry practice market power in the operational and interaction dynamics (Borenstein, 1992). In a certain study in 1990, it was claimed that there is a significant 8 percent drop in fares for every additional competitor in the market. This was observed when the market power shifted from monopoly to two competing companies and so as in the addition of the third competitor (Nichols, n.d.). A Comparison of Airfare Prices of Three Airline Companies To be able to demonstrate the interactions of factors in an airline company and their effects in the airfare prices, a study based on three airlines were conducted. Three airlines that have Heathrow, London to New York routes were selected. These are the United Airlines, the American Airlines and the British Airways. These airline companies are 3 of the companies in Heathrow Airport in London that offers a direct route to New York (London Heathrow International Airport, 2006). From a list of schedules, airfares of three periods were chosen for comparison. The airfares in economy and first class are also monitored. Prices at different flight times were also checked. The results are shown in Tables 1 and 2. Table 1. Comparison of the Airfare of Three Airline Companies for Economy Class. Flight Time American Airlines United Airlines British Airways April 29-30, 2006 Morning £309 £474 £334 Midday £309 £474 £334 Evening £309 £474 £334 May 1 – 31, 2006 Morning £349 £356 £369 Midday £349 £356 £369 Evening £349 £356 £369 August 1-31, 2006 Morning £612 £621 £624 Midday £612 £621 £624 Evening £612 £621 £624 Source: (Expedia Company, 2006) Table 2. Comparison of the Airfare of Three Airline Companies for First Class. Flight Time American Airlines United Airlines British Airways April 29-30, 2006 Morning £3191 £5324 £6681 Midday £3191 £5324 £6681 Evening £3191 £5324 £6681 May 1 – 31, 2006 Morning £3178 £5324 £6681 Midday £3178 £5324 £6681 Evening £3178 £5324 £6681 August 1-31, 2006 Morning £3178 £4329 £4342 Midday £3178 £4329 £4342 Evening £3178 £4329 £4342 Source: (Expedia Company, 2006) In the study conducted, three airline companies became the bases. Results show that generally the airfare was affected by the amenities that a certain company offers. British Airways has the highest airfares compared to the other 2 companies. One reason is that it is considered to have the best amenities based on the survey conducted by TripAdvisor.com. These amenities include in-flight foods; and comfort features such as larger seats, video screen for every seats and internet access. In the same survey, American Airways ranked as one of the airlines that have the worst amenities (2006). This is the possible reason for having the lowest airfare among the three companies. Another factor that was considered is the booking time. It can be noticed that for first class, airfare is cheaper when flights are reserved long before the flight schedule than when it is booked a day before the schedule. On the other hand based on the table, booking for economy class at an earlier period is more expensive than being booked later. There is a possibility that the earlier price could be the regular airfare price and the cheaper rate is a discounted one. Being one of the aims of the airline companies that flights should not have vacant seats, they need to fill all the seats and this is done by offering discounted fares. The time of flight during the day did not show significant effect on the airfare price as seen in the table. In the comparative study of airfare prices, a complex interplay of different factors can be seen. This relationship along with other contributing factors affects the pricing system like special offers and discounts given for travelling in groups. Conclusion In the airline industry with such complex market dynamics, the reasons behind every company’s decisions and the perspective of the supplier can present the process on how this type of market operates. This can give a clearer picture of the interplay of factors affecting the airfare prices. One of the major challenges in an airline industry is rendering services to a highly diverse group of subjects that demands unique services and assigned with different reservation prices and airfares. Some of the market strategies used in the airline industry includes pricing system that exploits the consumer resources by maximizing the willingness of consumer to access the services rendered. One effective way of doing this is though the price discrimination. This is done through monopoly and other practices that attract the target market. Discount schemes and other packages maximize the surplus of the consumer while meeting their needs. When a consumer achieves an understanding of the processes, maximization of personal surplus occurs by learning to make a choice and bargain (Watson, 2004). Being a complex system, the airline industry operates on the law of supply and demand in an exceptional manner. This is because discrimination in the prices of services is very evident yet still legal that two consumers can acquire similar product at very different prices. As intelligent consumer, one must know that the motivation of the company that offers services is usually the profit behind every transaction. As a result, consumers must prioritise every rendering of services offered to be able to acquire the lowest possible price. Knowledge of the market behaviour of the airfare industry lessens discrimination which is always present in a competitive market. Although consumers try to be vigilant about airfare pricing, it is inevitable that any level of discrimination can be encountered (Watson, 2004). In the conducted study, an overview of the factors affecting airfare prices was determined. This is aimed to give the consumers an idea on how to maximize their resources in relation to travelling by plane. Reference List Bailey, Elizabeth E. and John C. Panzar. 1981. The Contestability of Airline Markets During the Transition to Deregulation. Law and Contemporary Problems, Winter, 44:1, 125-145. Bonsor, Kevin. 2006. How Airlines Work. Howstuffworks inc. Available from: http://travel.howstuffworks.com/airline4.htm [Accessed April 26, 2006]. Borenstein, Severin. 1992. The Evolution of U.S. Airline Competition. The Journal of Economic Perspectives Spring, 6:2, 45-73 Expedia Company. 2006. 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Available from: http://72.14.203.104/search?q=cache:IitrTE8zpvgJ:www.agecon. ucdavis.edu/uploads/course_pages/cid_148/watson.are-100bpaper.pdf+what+factors+ determine+the+pricing+of+airline+ticket&hl=en&gl=ph&ct=clnk&cd=11 [Accessed April 26, 2006]. Read More