Flying Under Radar: Southwest Airlines and Incumbents’ Response to Entry
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Abstract
This paper investigates the competitive effect of Southwest Airlines, considering the factors affecting its decision to offer service in particular city-pairs and the effect of Southwest’s presence on overall fares and the fare distribution of major airlines. Southwest is a formidable, apparently low-cost competitor when it is present it often garners a large share and creates significant fare pressure on major airlines. Despite this competitive success Southwest’s network does not include service to many destinations, limiting its competitive effect. We investigate the factors affecting Southwest’s decision to offer service, including the effect of Southwest on overall fares and the fare distribution of major airlines. We find that ‘network efficiency’ complementing inefficiency of hub-and-spoke network is one of the key factors explaining Southwest’s selective entry and subsequent share. The ability of Southwest to offer more efficient network service then limits the markets where it operates. We also document empirical evidence that Southwest’s presence decreases the fare dispersion of major airlines leading more fare reduction of high-valued customers rather than low-valued, price-sensitive customers. This results also support the hypothesis that ‘network efficiency’ is one of the key elements explaining Southwest’s success.
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