MIAMI — The Transparent Airfares Act has been generating an inordinate number of headlines across the media world over the past few weeks. As one would expect, the act, which allows airlines to advertise base fares separately from government provided taxes and fees, instead of all-inclusive totals as it has since 2011, is being argued vehemently on two sides. Consumer advocates claim that the proposed law will allow airlines to disguise out of travel pocket costs and harm consumers, while the airline industry, unions, and the airline industry lobby claim that the law as it is presently written unfairly penalizes the airline industry.
Each of the two viewpoints have some merit, but there is another element of the act which has not been fully explored – the unique reduction in revenues and profits faced by the airline industry as a result of the law as presently written. Before exploring this idea, it is useful to re-iterate very clearly what the act entails. The following excerpt from the law details the only change to the way airlines currently advertise air fares:
“It shall not be an unfair or deceptive practice under subsection (a) for a covered entity to state in an advertisement or solicitation for passenger air transportation the base airfare for the air transportation if the covered entity clearly and separately discloses—
13 (A) the government imposed taxes and fees associated with the air transportation; and
15 (B) the total cost of the air transportation.”
As the law’s text clearly states, airlines will be allowed to advertise only government imposed taxes and fees separately – no revenue that accrues to the airline can be advertised separately from the fare.
But the current system has a cost, and one that’s not widely understood. The airline industry is one of the few industries in the United States that is currently required to advertise purchase prices with government taxes and fees included (others include “sin-taxed” items like cigarettes). Its fellow travel and hospitality industries (such as hotels and rental cars) all can advertise base prices, and then inform customers of taxes at the time of purchase.
The current system likely costs the US airline industry upwards of $1 billion in lost revenue annually.
Why? The reason is perhaps best explained by research done by distinguished Harvard University economist Raj Chetty, and several of his peers. The economists conducted an investigation of the effect of including sales tax on the sticker price at supermarkets for several items. The following is a summary of their findings via the National Bureau of Economic Research (NBER):
“Chetty, Looney, and Kroft partnered with a supermarket chain to conduct a three-week experiment in one of its stores. For taxable items, like cosmetics and other non-food products, stores customarily do not include the sales tax in the price tags on the shelves. Instead, the tax appears only on the sales slip when the purchases are rung up at the cash register, making them less salient to the consumer. In the targeted store, the researchers adjusted the price tags to display prices including the 7.375 percent sales tax. The result was a decline in sales of those items by 6 to 8 percent.”
Several other studies into consumer psychology have confirmed a similar effect from including sales taxes, or more generally advertising a base price without including all of the elements customers are likely to want (one of the major justifications for the a-la-carte pricing model).
Clearly the study cited above is not 100% applicable to the airline industry, which is dealing in a different type of good and a much higher priced one. But at the same time, the overall body of research on how customer psychology indicates that some effect is indeed likely. Keeping in mind that the average level of taxation is in the range of 20% for the airline industry, we feel reasonably safe in concluding that the effective reduction in sales of airline tickets is likely on the order of 0.5% overall (the higher taxation rate offsetting the decision making calculus of the higher priced item). For a $200 billion industry, 0.5% equals $1 billion.
And that $1 billion is a cost that the airline industry is almost exclusively required to bear. The only other industries that have to deal with this are industries in which lawmakers are trying, on some level, to reduce consumption of (including gasoline).
Whether or not one supports the Airfare Transparency Act, it certainly has an impact on the bottom line of the airline industry and the livelihood of the industry’s employees. That $1 billion in revenue likely means hundreds of millions of dollars in profits and millions of dollars in profit sharing checks for front-line employees. After all, there has to be a good reason that ALPA has come out in favor of the Airfare Transparency Act, standing right alongside airline management and the industry lobby.