Article published in the Ottawa Citizen, December 11, 2001, p. A-17
The debate continues after Industry Minister Brian Tobin, with his well known command of economics, called for new coercive measures against "predatory pricing" in the airline industry. This is the sort of newspeak that economists have been fighting for decades.
The point here is not to defend Air Canada, seen as the predator by our enlightened politicians and bureaucrats. If Air Canada wants to play the subsidy game, it can't complain when forced into the regulation game. The point is that predatory pricing is a political excuse for competitive losers to ask for regulation or other forms of protection.
The only instance where predatory pricing can occur is under a "natural monopoly." You have a natural monopoly when a single firm can supply the whole market at lower costs than can a competitive industry. Natural monopolies are rare beasts, so rare that firms claiming the status (cable distributors, hydroelectric companies, for instance) need legal prohibitions against potential competitors to prove it.
In a market with no natural monopoly, a competitive industry is more efficient because every competitor produces up to the point where its average cost of production would increase. In such a situation, predatory pricing -- charging prices that don't cover your own costs in order to bankrupt competitors -- cannot be in the interest of a dominant firm. For as such a firm holds a larger part of the market, it stands to loose more than its competitors from below-cost pricing.
These losses would be profitable only if they could later be recouped from higher monopoly prices. But this is prevented by the diseconomies of scale the predator would face after his competitors have been chased away (given no natural monopoly). And if the "predator" jacks up prices after gaining its monopoly, new competitors will start another price war. Private investors don't play yo-yo with their money.
A fascinating example is recounted in David Friedman's recent book Law's Order: What Economics Has to Do with Law and Why It Matters. About a century ago, Standard Oil held a large part of the oil industry although, contrary to popular mythology, it never had a total monopoly. Standard Oil threatened Cornplanter Oil with a predatory price war. The latter's representative replied: "I am glad you put it that way, because … if you cut the market ... I will make you sell the stuff." That was the end of the threat, as Standard Oil did not want to lose money supplying the whole market at a loss.
It may be that keeping an airplane seat empty is more costly than waiting to sell a barrel of oil, but it is only a matter of degree. Don't do to the Canadian airline industry what the U.S. government did to Standard Oil, or what it threatened to do to IBM or, lately, to Microsoft.
The "tools with teeth" that Brian Tobin is asking for in order to enforce his brand of managed competition in the airline industry are the predator's tools par excellence: force, i.e., state coercion. The fox of the state is already in the henhouse of air travel, but this is no argument to give it still sharper teeth.