Case 4
MAGIC CARPET AIRLINES: CLIMATE OF THE AIRLINE INDUSTRY
Appendix A

Prior to the Deregulation Act of 1978, the airline industry was federally regulated in regards to the routes airlines flew and the fares they charged. Typically, when carriers negotiated labor contracts they gave a specific percentage increase in wages and then petitioned the government for a similar percentage increase in their fares. With full deregulation, airlines were free to fly any routes, pay any wages, and to charge any fares they wished.

Deregulation resulted in the formation of many new airlines. These new carriers were usually non-union and had substantially lower labor costs; thus, they charged lower fares. Competition for passengers forced the older carriers to lower their fares and to reduce service to smaller cities with unprofitable routes. To cope with deregulation, companies made other changes. Airlines realigned their route systems. They developed "hub and spoke" systems whereby passengers were funneled into a hub city by a small regional carrier utilizing small aircraft (as represented by a spoke on a wheel). Travelers connecting at a hub city from a small airline then transferred to the major. To encourage these transfers, major airlines began contracting with smaller regional airlines to provide this spoke system for their hub cities. This arrangement gave new opportunities to regional carriers. However, to obtain such arrangements, regional airlines had to also cut costs. Typically, regional carrier pilots earn less than one-half of what national carrier pilots earn. Flight attendants also earned significantly less at regional carriers.

Many airlines sought to trim their labor costs. Deregulation led to confrontational bargaining with labor unions. This was exacerbated by the recession of the early 1990s. It became normal for companies to ask for wage concessions. Owners also formed holding companies that controlled the airline itself. Holding companies could divert assets, revenues, and profits from the airline to the holding company. This could paint a false picture of the airline's true profitability, enabling the carriers to skirt issues in collective bargaining agreements.

Airline deregulation shifted the stress of uncertainty of a carrier's future to the bargaining table. Management had tested labor's power and found they could conquer it, such as Frank Lorenzo did by putting Continental Airlines in bankruptcy and nullifying their labor contracts in 1983. He then cut workers' wages in half. This had a profound effect on the industry. Soon two-tier wage provisions appeared, whereby a reduced wage rate was paid for the same job category for newly hired employees.

Although profitability returned to the airline industry during the mid-1990s, labor faced new challenges. Historically, unions at major carriers had provisions stating that only their members could work on jet service (at national carrier wage levels). Now major carriers were encouraging regional airlines to switch from propeller planes to small jets, and then demanding that their pilot and flight attendant unions agree to this change. The unions feared that this could ultimately lead to layoffs due to major carriers subcontracting some of their routes to regional, low-wage airlines flying jets. Labor no longer worked in a protected environment. Deregulation made union leaders rethink their goals.