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Policy Brief No.

67

Evidence that Airport Pricing Works


by Dr. George L. Donohue and Dr. Karla Hoffman
Project Director: Robert W. Poole, Jr.

introduction allocation approaches for LGA, since the HDR rule was
legislated to be removed by January 2007. (In fact, LGA

T his paper describes the results of research that


analyzed mechanisms for reducing congestion
and delays at LaGuardia Airport (LGA) in New York.
is now operating under an interim continuation of slot
controls.) George Mason University (GMU) and the
University of Maryland (UMD) undertook the task of
The findings should be equally applicable to any simi- leading this research effort. UC Berkeley, MIT, Harvard,
larly congested airport such as John F Kennedy (JFK), and GRA, Inc. played major roles in the design and anal-
Newark International (EWR) or Chicago O’Hare (ORD). ysis of the two games. The first took place on Nov. 3-5,
Slot allocation has historically been limited at LGA by 2004 and the second on Feb. 24-25, 2005. The purpose
a High Density Rule (HDR) first employed in1968. Thus, of the games was to test a range of government policy
airlines were provided with “slots” (rights to takeoff and options designed to reduce the expected congestion that
land), with a use-it-or-lose it rule that returned slots to a was likely to result from the expected expiration of the
pool for reallocation if the slots were not used 80 percent HDR on January 1, 2007. While a central issue in this
of the time. Since 1985 operators have been able to trade research project was the replacement of the slot lottery
slots in a secondary market of sorts, but few have been (the “slottery”) and HDR at LGA, it was recognized that
sold other than during bankruptcy proceedings. the policies being tested could have potential applicabil-
In 2004, The NEXTOR universities were requested ity to a number of U.S. airports that are operating at or
by the Federal Aviation Administration (FAA) and the close to their maximum operating limits.
U.S. Department of Transportation (DOT) to design Conventional economic wisdom suggests that
and conduct a series of government-industry strategic market-based mechanisms such as congestion pricing
simulations (“strategic games”) to help the govern- and auctions are efficient in allocating scarce resources.
ment evaluate policy options for airport congestion Both options charge higher fees for peak periods than
management. We were directed to evaluate alternative for off-peak periods, discouraging low-value flights

R e a s o n F o u n d a t i o n • w w w . r e a s o n . o r g
driven mechanisms such as auctions date back to 1979
with the work of Grether, Issac, and Plot [13] and
Rassenti, Smith and Bulfin [14]. European research-
ers, DotEcon Ltd [15] and National Economic Research
Associates (NERA) [16], conducted macro-economic
analysis to conclude that proper implementation of
auctions will result in higher passenger volumes,
higher load factors, reallocation of flights to off-peak
times or to less congested airports, and lower fares on
average. Ball, Donohue and Hoffman [17] put forward
the need for three types of market mechanisms: an
auction of long-term leases of arrival and/or departure
from being scheduled in peak periods. In addition, slots, a secondary market that supports inter-airline
increasing per-flight cost is expected to encourage exchange of long-term leases, and a near-real-time
airlines to up-gauge (substitute larger-capacity planes market that allows for the exchange of slots on a par-
for some flights), and therefore increase passenger ticular day of operation.
throughput.
Congestion pricing as applied to runway allocation
would result in the price of an arrival or departure time
The Strategic Game
slot varying by time of day and day of week, and the
prices would dynamically change as the demand for The first simulation was held at GMU in November
operations changes over time. Congestion pricing of of 2004. It was principally focused on evaluating and
transport networks has been common in road traffic. comparing administrative measures and congestion
Examples include traditional tolling as well as more pricing. There were six major game players consisting
dynamic electronic-charges to users such as those used of teams from four airlines, the federal government
in London [4], in Trondheim, Norway [5], Singapore and the Port Authority of New York and New Jersey
[6], Toronto’s Highway 407, and SR 91 and I-15 HOT (PANYNJ), which operates LGA. Other participants
lanes in California. The airlines would find congestion included representatives of other airlines and airports,
prices that were set at day-of-operations (as in road the Air Transport Association, and various experts
pricing) difficult to manage, since their schedules are from academia, industry and government. The game
announced 90 days in advance. Thus, unlike individ- projected the participants to a hypothetical setting in
ual drivers, airlines should not be encouraged to cancel November 2007. The baseline scenario was an LGA
flights at the last minute due to high arrival costs. For schedule involving approximately 1,400 total daily
this reason, we considered a congestion management operations (arrivals and departures), a number that
approach whereby the prices are announced 120 days exceeds recommended operational levels. The airline
in advance, and the airlines base their schedules on teams adjusted their schedules in response to vari-
these announced prices (see Daniel [7], Pels [8], Fan ous government policies put in place. These policies
[9], and Schank [10], and Berardino[11] for more on involved federal regulations, administrative restric-
runway congestion pricing). tions, and congestion-based fees (substituting for cur-
An alternative to congestion pricing is the alloca- rent weight-based landing fees). For each alternative
tion of slots by auction for a much longer period of presented in these exercises, the resulting aggregated
time. The buyer has, in essence, leased the right to schedule was fed to two independently-developed
a given takeoff or landing and can use or re-sell that simulation models to calculate the levels of delay and
right for any portion of the lease period. The airlines cancellations that would have resulted from an attempt
bid for the right to land and/or depart at a given time. to operate that schedule (see Lovell, et al. 2003 and
Proposals to allocate airport time slots using market- Donohue and Le, 2004).

Reducing Airport Delays


2 Reason Foundation • www.reason.org
The airline teams were asked to make scheduling ing the government team to use whatever administra-
decisions under different hypothetical policy environ- tive procedures they felt were appropriate to handle
ments. The research goal was to better understand the congestion resulting from the lifting of the HDR.
the pros and cons of alternative policy actions. The This game included two rounds of applying alterna-
game details can be found in Ball, et.al. [19]. The game tive administrative actions with the airlines adjusting
proceeded through five separate policies: Do noth- their schedules. The final sequence again started with
ing, two administrative alternatives, and two different the baseline, and implemented congestion pricing at
levels of congestion pricing. Each sequence began with LGA in an effort to reduce the delay costs to passen-
a baseline schedule of operations at LGA, based on gers. Two rounds of adjusting congestion prices were
the August 2004 Official Airlines Guide (OAG), with executed.
flights added to bring the level of scheduled operations
to a hypothetical 1,400 operations per day, similar to
the peak levels expected at the expiration of the HDR. Results of the Game
Each airline player team was responsible for their por-
tion of the schedule. Table 1 summarizes the scheduling results and
Included in the rules of the game was a Passenger delays for each game move. As noted above, one
Bill of Rights (PBR) that forced the airlines to pay pas- tested policy was a Passenger Bill of Rights (PBR) that
sengers when their
flights were delayed Table 1: Summary of LGA Strategic Game
or cancelled. By using Airline Baseline PBR Admin Measures Congestion Price
the PBR, we could set move 1 move 1 move 2 move 1 move 2
the metric of game # arr 142 130 131 127 143 133
A arr diff 0 -12 -11 -15 1 -9
flight-delay and can-
#seats 13120 12413 12125 11977 13256 12590
celation in terms of seats diff 0 -707 -995 -1143 136 -530
dollars, thereby allow- # arr 127 122 119 116 94 94
ing a common metric B arr diff 0 -5 -8 -11 -33 -33
#seats 14581 14037 13671 13429 13834 13834
for all analysis. seats diff 0 -544 -910 -1152 -747 -747
The simulation # arr 212 208 204 191 174 174
proceeded through C arr diff 0 -4 -8 -21 -38 -38
#seats 15065 15055 14282 13562 13593 13593
three sequences seats diff 0 -10 -783 -1503 -1472 -1472
consisting of a total # arr 22 22 14 13 22 21
of five moves. Each D arr diff 0 0 -8 -9 0 -1
#seats 3300 3520 2228 2454 3876 4098
sequence began with seats diff 0 220 -1072 -846 576 798
a baseline schedule # arr 193 183 124 129 184 186
of operations at LGA. E arr diff 0 -10 -69 -64 -9 -7
#seats 23688 22769 15050 16166 23015 23203
The first sequence seats diff 0 -919 -8638 -7522 -673 -485
continued by allow- Part 135 # arr 18 28 28 28 29 29
ing the airline play- arr diff 0 10 10 10 11 11
#seats 144 266 266 266 286 304
ers to make schedule
seats diff 0 122 122 122 142 160
changes in response Total # arr 714 693 620 604 646 637
to the costs imposed arr diff 0 -21 -94 -110 -68 -77
on them by the PBR. #seats 69898 68060 57622 57,854 67860 67,622
seats diff 0 (1,838) (12,276) (12,044) (2,038) (2,276)
The second sequence Total Cancel $ $ 784,790 $ 609,498 $ 231,195 $ 207,334 $ 390,206 $ 342,329
began again with the UMD Delay $ $ 837,632 $ 864,716 $ 514,954 $ 461,246 $ 575,135 $ 557,354
baseline, but then Model Pax $ $ 1,622,422 $ 1,474,214 $ 746,149 $ 668,580 $ 965,341 $ 899,683
AP $ $ 392,700 $ 381,150 $ 341,000 $ 332,200 $ 866,513 $ 891,688
proceeded by instruct-
$ 1,855,364 $ 1,791,371

Reason Foundation • www.reason.org 3 Reducing Airport Delays


adjusted. This adjusted cost translates to $53 per pas-
senger.
We now look more closely at each of the policy
alternatives.
Passenger Bill of Rights: Congestion was not
significantly reduced by imposing a Passenger Bill
of Rights. A possible reason that it had such a small
effect on reducing delays may have been the reluc-
tance of any one airline to be the first to make signifi-
cant reductions in their schedule and loose market
share. In game theory, this is known as the “Prisoner’s
Dilemma.”
Administrative Decisions: The administrative
forced the airlines to pay passengers when their planes decisions did lead to a controlled level of congestion
were delayed or cancelled. The “Pax $” row (near the but the delay was still relatively high, and passenger
bottom) shows the PBR compensation to passengers throughput was significantly reduced. Had the gov-
that would have resulted in each stage of the game. ernment chosen an alternative capacity setting each
This value is a proxy for the economic cost to passen- time period, the delay would have been reduced fur-
gers of delays and cancellations, based on data showing ther. But the government’s slot-controlled approach
that, on average, a cancellation cost passengers seven is likely to maintain the relatively inefficient use of
hours of delays (see Wang [3]). The passenger com- LGA’s runway, gate, and aircraft resources. Specifi-
pensation rate was set at $10 per hour for this exer- cally, the Port Authority would like LGA to operate at
cise and did not include any other costs such as ticket a 30 million annual passengers (MAP) enplanement
refunds or hotel costs. capacity (i.e., approximately 68,000 seats per day), a
The PBR did not substantially change the delays number in line with the estimated land-side capacity of
but did exacerbate the financial vulnerability of airlines the airport. Under current slot controls and a capacity
to delays caused by other operators. The penalty fees constraint similar to that imposed by the FAA during
that would have been paid to passengers amounted to the game, the airport is operating at less than 27 MAP
almost $1.5 million per day (see Table 1, PBR column, (i.e. approximately 58,000 seats per day).
PAX$). The FAA Cost Guidelines (FAA-ASD 2004) Congestion Pricing: Under congestion pricing,
specify that the economic cost of passenger time is the airlines chose schedules that led to a larger aver-
$28.60 per hour, so the values shown for Cancel $, age aircraft size (gauge) when compared to the airline
Delay $, and Pax $ can be multiplied by ($28 / $10) response under the administrative measures. Since
to derive an estimate of the full economic cost per day under congestion pricing, any airline can use the
to passengers of congestion at LGA. In the least-delay runway for the stated fee, there is no incentive for an
case (Admin 2), passengers continued to suffer over airline to pay for slots and then either not use them or
$668,000 per day as calculated (or nearly $1.9 million use them inefficiently. In this setting, certain carriers
if multiplying this number by 2.8) in addition to the with historically large numbers of slots and operations
$332,000 per day fees incurred by the airlines. reduced their operations. At the same time carriers
The “AP $” row shows the daily fees paid by air- with historically smaller footprints at LGA increased
lines, either in landing fees or congestion fees. The their levels of operations. The increase in average
second congestion pricing round cost the airlines gauge provides some evidence that these changes led to
$891,000 per day in congestion fees, corresponding to a more efficient use of the slot resources. Congestion
an average $19 per passenger (assuming a 70 percent pricing increased the passenger capacity of LGA by
load factor). The passengers still suffered $899,000 nine percent, compared with administrative measures,
per day in lost time (unadjusted) or $2.52 million if achieving the PANYNJ goal of nearly 68,000 daily

Reducing Airport Delays


4 Reason Foundation • www.reason.org
Figure 1: LGA Flight Schedule Changes with Congestion Pricing

35 $1,400
30 Difference congestion Price
$1,200
Difference in Operations

25
20 $1,000

Congestion Price
15
10 $800
5 $600
0
-5 $400
-10
$200
-15
-20 $0
515 715 915 1115 1315 1515 1715 1915 2115 2315

seats. Figure 1 shows how the schedule was modi- times; the airlines provide new schedules, and the
fied from an administratively dictated schedule (e.g. process continues until the capacities and schedules
a schedule very similar to the LGA summer of 2004 are in balance. This process of determining the con-
schedule). The left axis shows the difference in sched- gestion prices before schedules are announced to the
uled flights in 15 minute aggregated time bins. The public results in a pricing approach that is, in essence,
right axis shows the operational price for each period, a short-term ascending auction for rights to announce
set to encourage efficient use of the landing opportuni-
schedules at LGA.
ties and to reduce congestion back to 2005 levels. One
More generally the results of this strategic game
thing the game highlighted is that the schedules were
support economic arguments that market-based alloca-
very sensitive to the times when prices either increased
tion mechanisms, e.g. congestion pricing or slot auc-
or decreased substantially, i.e. the airlines concen-
trated flights just prior to price increases or following tions, are likely to lead to better use of the scarce airport
price decreases. Further pricing changes could miti- resources than the present administrative measures.
gate these steep step increases. We note that the administrative actions could
Figure 2 shows the effect of congestion pricing on have led to more significant reduction in delays had
aggregate airline gauge choice throughout the 24-hour the administration been willing to set the capacity at a
schedule. Overall gauge is increased significantly at lower level. Thus, one important component to man-
almost all times of the day. Figures 3 and 4 show how aging delay is the determination of a proper capacity
the schedule was modified by flight distance, aircraft limit. The planned capacity (operations rate) is the
gauge and schedule frequency. Notice that the conges- most influential control available to determine the
tion pricing options produced a complex response by level of delays contributed to the NAS by each airport,
both flight distance and aircraft gauge. and the game revealed that there is little policy or
We note that the game invented a hypothetical consensus providing guidance for trading off delay/
Pricing Board with authority to set prices dynamically unpredictability against unused capacity. The level
based on schedules submitted (in principle) every 90 of schedule predictability is a major public policy
to 120 days. The process would work as follows: The issue. Recent over-scheduling at ORD (2005) and JFK
airlines submit schedules based on initial announced (2007) have demonstrated that significant delays at
prices. The Board evaluates the schedules provided, one airport propagate throughout the network. Thus,
and returns prices to reduce demand in oversubscribed mis-specification of capacity can lead to significant

Reason Foundation • www.reason.org 5 Reducing Airport Delays


delays at airports other than the one whose
Figure 2: Schedule Average Gauge in Admin1 & CP2 capacity was set incorrectly.

180
Average Gauge(seats/opera tion)

160
The Second Game
140
120 A second strategic exercise took place on
100 February 24-25, 2005 at The University of
80 Maryland. At the end of the first game, the
60 industry indicated that they did not under-
40 Admin. Meas. Round 1 stand auctions and believed them to be too
20 Conjestion Price Round 2 complex. The exercise in February had the
0
industry use combinatorial clock auction soft-
45 300 515 730 945 1200 1415 1630 1845 2100 2315
ware where only price and aggregate demand
Time (45 min. rolling Avg.)
information was provided to the industry in
each round of the auction. Given prices based
Figure 3: Percent Change in Number of Operations on time of day, the industry was asked to pro-
by Flight Distance
vide schedules. The industry learned that the
30.0%
auction was not dissimilar from the conges-
20.0%
tion pricing exercise.
10.0%
Since the purpose of the game was to
0.0%
illustrate how auctions would work, we only
-10.0%
had the industry participate in a few rounds.
-20.0%
Therefore, we do not provide any results from
-30.0%
this game other than to say that the auction
-40.0% <500
[500,1000) resulted in frequencies and up-gauging simi-
-50.0%
[1000,1500) lar to those seen in the first game.
-60.0%
>=1500
-70.0%
baseline PbR Admin1 Admin2 cP1 cP2
Response Conclusions of the
Figure 4: Percent Change in Number of Seats by Flight Distance Strategic Exercises
30.0% We are not suggesting that the charts
20.0% and tables provided reflect the final prices or
10.0% schedules that would occur if these policies
0.0%
were implemented. In each case, only a few
-10.0%
rounds were employed. And, as prices got
higher, the airlines indicated that they needed
-20.0%
more time and their sophisticated scheduling
-30.0%
<500 technology to determine their next moves. In
-40.0% [500,1000)
addition, they worried that their responses
[1000,1500)
-50.0%
>=1500
might provide strategic decisions that they
-60.0% were not at liberty to reveal.
baseline PbR Admin1 Admin2 cP1 cP2
Response One result that we do believe is true: the

Reducing Airport Delays


6 Reason Foundation • www.reason.org
airlines will be influenced by both the fees they are both the PANYNJ and the passengers, might schedule
assessed and by the capacity limitations that the FAA its flights under restricted IMC capacity. The study
might impose. As the fees increase, the airlines are was undertaken by Dr. Loan Le as part of her doc-
likely to put slots to their most efficient use, resulting toral studies at GMU. This research project used the
in both up-gauging and frequency reduction. Due to same analytical models that the airlines use to gener-
the up-gauging, LGA is likely to find that they handle ate schedules, determining fleet size based on price
the same or a greater number of passengers with less elasticities of demand. Two main features character-
congestion of their runways and gate facilities. ize the methodology: (a) we model a single benevolent
It is not clear to us whether a shorter term auction airline instead of individual airlines, and (b) we explic-
(i.e. congestion pricing as described above) or a longer itly account for the inherent demand-supply relation
auction is best for the industry. Shorter term pricing through price. Thus, prices are based on the elasticity
mechanisms require less financing and more abil- of the market based on the competitive environment
ity to move in and out of markets. Longer term auc- observed in 2005. In the dissertation [20], Le analyzes
tions provide more stability and thereby more ability multiple scenarios that relax our single benevolent
to market new locations and services and to invest in airline concept. The results show that at IMC operating
infrastructure. rates, the airline’s profit-maximizing responses found
scheduling solutions that offer a 70 percent decrease in
flight delays and a 20 percent reduction in the number
Research to Predict Schedule of flights--but with almost no loss of the markets
Changes if Reduced Capacity served or of passenger throughput. The profitability
of the schedule was obtained at prices consistent with
Were Imposed the competitive market existing at LGA today. Table

A question that came out of


these exercises was whether sched- Figure 5: Estimated Up-Gauging for Priced IMC Operations at LGA
ules exist that could accommodate Estimate of Aircraft Up-Gauging
actual 2006 passenger throughput
300
at LGA if capacity limits were set Current Fleet Allocation
at the lower level called for during 90% Optimum Fleet Allocation
250
inclement meteorological conditions
(IMC)--a figure determined by the
Number of Daily Flights

200
FAA based on the capacity of the
runway(s) when instrument landings
are required. A second question was: 150

What prices could one expect with


such a schedule, given that the con- 100
gestion price schedules would be at
the lowest prices consistent with the 50
airlines maintaining profitability?
In an attempt to determine if
0
such schedules exist, we modeled 19 to 37 44 to 50 69 to 77 88 to 117 to 138 to 166 to 194 to
how a benevolent monopolist airline, 110 133 158 181 225
representing the best interests of Aircraft Seating Capacity

Reason Foundation • www.reason.org 7 Reducing Airport Delays


2 shows the change from the 2005 schedule in terms References
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ing that the smallest planes remain in the schedule, i.e. Fix It”, GMU Center for Air Transportation Systems
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the greatest up-gauging is at the 44-50 seat size, and [2] Donohue, G. and R. Shaver, Terminal Chaos
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Table 2: Impact of Simulated Pricing for IMC Operations
at LGA [3] Wang, D. “Methods for Analysis of Passenger
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90% Maximum Profit portation System”, PhD dissertation, George Mason
Number of Markets 67 64 (-4%) University, summer 2007. .
Number of Flights 1024 808 (-21%)
[4] T. Litman, “London Congestion Pricing: Impli-
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Average Aircraft Size 95 seats/AC 121seats/AC (+27%)
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Reducing Airport Delays


8 Reason Foundation • www.reason.org
Why peak runway pricing is not working,” Journal of About the Authors
Air Transport Management, vol. 11, pp. 417–425, 2005.
Dr. George Donohue is director of the GMU Center
[11] F. Berardino, “Alternative to the High-Density
for Air Transportation System Research (CATSR) and a
Rule at LaGuardia” GRA Report. 2004.
Professor of Systems Engineering in the Volgenau School
[12] P. Milgrom, Putting Auction Theory to Work. of IT & Engineering. He was formerly the Associate
Cambridge University Press, 2004. Administrator for Research and Acquisitions at the FAA.
[13] D. Grether, M. Isaac, and C. Plott, “Alternative Dr. Karla Hoffman is a Professor of Operations
methods of allocating airport slots: Performance and Research in the same department with extensive expe-
evaluation,” Pasadena.: Polynomics Research Labora- rience in FCC spectrum auctions and airline scheduling
tories, Inc., Tech. Rep., January 1979. and operations.
[14] S. Rassenti, V. Smith, and R. Bulfin, “A com-
binatorial auction mechanism for airport time slot
allocation,” Bell Journal of Economics, vol. 12, no. 2,
pp. 402–417, 1982.
R EASON FOUNDATION’s
mission is to advance a free
society by developing, applying, and
[15] DotEcon Ltd, “Auctioning airport slots: A promoting libertarian principles,
report for HM treasury and the Department of the including individual liberty, free
Environment, Transport and the Regions,” London, markets, and the rule of law. We
Tech. Rep., January 2001. use journalism and public policy
[16] National Economic Research Associates research to influence the frameworks and actions
(NERA), “Study to assess the effects of different slot of policymakers, journalists, and opinion leaders.
allocation schemes,” London, Tech. Rep., January 2004. For more information on Reason Foundation
and our transportation research, please contact the
[17] M. O. Ball, G. L. Donohue, and K. Hoffman,
appropriate Reason staff member:
“Auctions for the Safe, Efficient and Equitable Allo-
cation of Airspace System Resources” Chapter 17 of
Transportation Planners and Officials
Combinatorial Auctions. Cramton, P., Y. Shoham, and
Robert Poole
R. Steinberg eds. MIT Press, 2005. .
Director of Transportation Studies
[18] D. Lovell, A. Chuchell, A. Odonoi, A. Mukher- (310) 292-2386
jee, and M. Ball “Calibrating Aggregate Models of Robert.Poole@Reason.org
Flight Delays and Cancellation Probabilities at Individ-
ual Airports,” Conference on Air Traffic Management, Government Officials
EuroControl, 2003.
Mike Flynn
[19] M. Ball, K. Hoffman, G. Donohue, P. Rails- Director of Government Affairs
back, D.Wang, L. Le, D. Dovell, and A. Mukherjee, (202) 986-0916
“Interim report: The passenger bill of rights game, FAA Mike.Flynn@Reason.org
congestion management game 1 report,” NEXTOR
Report, Tech. Rep. NR-2005-01, January 2005. Reason’s transportation research and commentary
is available online at www.reason.org/transportation.
[20] Le, Loan, “Demand Management at Congested
For the latest analysis of transportation news and
Airports: How Far are we from Utopia?” PhD. Disser-
trends, you can join Reason’s transportation email
tation, George Mason University, August 2006, http://
newsletter by emailing Robert.Poole@Reason.org.
catsr.ite.gmu.edu .

Reason Foundation • www.reason.org 9 Reducing Airport Delays