T U T O R I A L # 6

S E C T I O N C

C A S E S T U DY P R A C T I C E –

T H E G R OW T H O F A I R T R AV E L

When was the last time you flew on a plane?

THE FLYING PALACE• VVIP customised Airbus A380 – can transport 800 passengers

• Ordered by Saudi Prince Alwaleed bin Talal al-Saud

• Features:

– A spiral staircase and a lift for the prince’s private entrance

– A concert hall featuring a grand piano and seating for an audience of 10

– A Hamam steam room lined with thin layer of marble

– 5 luxury suites with king-size beds

– Parking space for a Rolls Royce

For the rest of us mortals…

Changi Airport serves more than 100 airlines flying to some 320 cities in about 80 countries and territories worldwide.

Each week, about

6,800 flights land or

depart from Changi, or about one every 90

seconds, with 55.4 million passengers

passing through in 2015.

Last year, about 1.85 million tonnes of air

freight passed through Changi airport.

That’s about the weight of 465 elephants…

READ AND ANNOTATE

• You have 5 minutes to read and annotate the given data.

• Highlight key information and write down related

economic concepts.

• Jot down answers to the questions listed by the side.

End

(a) (i) Summarise the trends in international air passenger growth 2000-2004. [2]

• Overall, there was an decrease in international air passenger growth from 2000 to

2003 and a rise in international air passenger growth from 2003 to 2004. [1m]

• However in 2001, air passenger growth registered a negative growth of 1%. [1m]

Fig. 1: World Economic Growth and International Air Passenger Growth, 1994-2009

Usually 1m forgeneral trend + 1m for refinement

(a) (ii) Compare these trends with the forecast trends for 2005 – 2009. [2]

• Both passenger growth from 2000-2004 and forecasted growth for 2005-2009

showed general positive trends. [1m]

• However, while passenger growth between 2000-2004 is observed to be volatile,

forecasted air passengers for 2005-2009 is growing at a decreasing rate. [1m]

Fig. 1: World Economic Growth and International Air Passenger Growth, 1994-2009

Usually 1m for similarity + 1m for difference

MUST use ‘comparison words’!!

(b) With the help of a supply and demand diagram, explain the likely impact of both global economic growth and the entry of low-cost airlines on the market for international air passenger travel. [6]

DISCUSS & DRAW

1. What happens to demand? Why?

2. What happens to supply? Why

3. What is the market impact, i.e.

changes in price, quantity & expenditure?

2 minutes

End

DEMAND SUPPLY

From Fig. 1, world economic growth has generally been positive, even reaching a 30-year high in 2004 as seen in Extract 1.

1. Trade likely to have increased �international air travel required to conduct business deals �DD for flights ↑

2. Consumers enjoy higher household incomes � increased purchasing power � DD for leisure travel � DD for flights ↑

P↑ , Q↑

Low-cost airlines have enjoyed great success around the world, according to Extract 2, and are likely to grow further.

1. Entry of low-cost airlines � increase in the number of producers of international air travel �SS for flights ↑

P↓ , Q↑

Overall, DD↑ and SS↑ reinforce Q↑, but price is indeterminate.

Judgement: SS↑ may be limited as low-cost airlines tend to provide domestic / regional flights due to use of smaller planes. Increment of international air travel SS may not be significant. � Likely that overall P↑.

P↑ and Q↑, so PxQ↑.

Price

Quantity0

DD

DD1

SS1SS

P1

Q1

P

Q

Market for international air travel

(c) (i) What is meant by price elasticity of demand? [2]

• Definition: Price elasticity of demand (PED) measures the degree

of responsiveness of quantity demanded of a good to a change in

the price of the good itself, ceteris paribus. [1m]

• Formula: PED for good A = % change in quantity demanded of

good A % / % change in the price of good A[1m]

(c) (i) How far does the concept of price elasticity of demand help to explain the success of low-cost airlines such as AirAsia, Virgin Blue and Tiger Airways? [6]

DISCUSS

1. What are the requirements of a

question that begins with ‘how far…’?

2. What is the objective of an airline?

3. How is PED useful to firms?

2 minutes

End

Profit maximisation objective:

• If the firm is able to increase its revenue, the profit level

will increase assuming there is no change in cost. The

success of low-cost airlines refers to the ability of these

airlines to increase the revenue generated, hence the level

of profits.

(c) (i) How far does the concept of price elasticity of demand help to explain the success of low-cost airlines such as AirAsia, Virgin Blue and Tiger Airways? [6]

THESIS: THESIS: THESIS: THESIS:

PRICE EL ASTICIT Y OF DEMAND IS USED FOR FIRMS TO ENGAGE

IN PRICING STRATEGY.

• The demand for low-cost air travel is relatively price elastic.

• Relatively more substitutes available in low-cost airlines services.

• Low-cost airlines usually only provide short haul travels which were also provided by other international airlines, thus passengers whom wish to travel to near-distanced destinations have more choices.

• Hence the low-cost airline should lower its price to increase revenue as the fall in price will lead to a more than proportionate increase in quantity demanded.

• This concept has enabled low-cost airlines to increase their revenue when they choose to price their tickets at a lower price.

• Demand is price elastic, • Increase in total revenue as the gain in quantity (Area B) is

larger than the loss from the price cut (Area A).

ANTIANTIANTIANTI----THESIS:THESIS:THESIS:THESIS:

DOES NOT ONLY DEPEND ON PEDDOES NOT ONLY DEPEND ON PEDDOES NOT ONLY DEPEND ON PEDDOES NOT ONLY DEPEND ON PED

• Success not solely due to PED

• Not realistic to think that low-cost airlines could make more revenue through lowering their prices because of low PED.

• The low-cost airlines also need to consider the feasibility of lowering prices.

• Incidentally due to the nature of low-cost airline, and expectations of consumers, low-cost airlines practice a different business model which allow them to cut cost and thus lower prices, some of these cost cutting practices include (you only need to make reference to one or two examples):

SOME OF THESE COST CUTTING

PRACTICES INCLUDE

Such carriers undercut prices at major airlines by

• using aircraft more frequently,

• packing in more seats

• selling tickets directly via websites rather than travel agents

• Cutting in-flight services

SOME OF THESE COST CUTTING

PRACTICES INCLUDE

• fast turnaround times (allowing maximum use of aircraft)

• a single type of aircraft (commonly the Airbus A320 or Boeing 737 families), reducing training and servicing costs

• no in-flight entertainment systems made available

• flying to cheaper, less congested secondary airports and flying early in the morning or late in the evening to avoid air traffic delays and take advantage of lower landing fees

• fast turnaround times (allowing maximum use of aircraft)

• a single type of aircraft (commonly the Airbus A320 or Boeing 737 families), reducing training and servicing costs

• no in-flight entertainment systems made available

• flying to cheaper, less congested secondary airports and flying early in the morning or late in the evening to avoid air traffic delays and take advantage of lower landing fees

CONCLUSION

• Thus with the ability to lower cost and also with the fact that the demand for low-cost airlines

is price elastic, lowering of ticket prices have been a major factor in the success of such

airlines.

Or

• Thus with the ability to lower cost or to ensure that the rise in cost is less than the rise in revenue, the

low-cost airlines are able to remain successful.