The Hindu Business Line : `To get best benefits to passengers, the key is efficiency'

Building infrastructure will be a challenge. There will have to be a lot of investment, as much in airports as in airlines. There is also the need for good economic regulation to get better efficiency.

MR BRIAN PEARCE, CHIEF ECONOMIST, IATA

recently in Geneva

There could be reason for the global airline industry to cheer during 2007. The International Air Transport Association (IATA) predicts that globally the industry will report a net profit of $2.5 billion in 2007, the first year of profits since 2001. IATA's Chief Economist, Mr Brian Pearce, outlines the prospects.

Excerpts from the interview:

What will drive the $2.5-billion profit during 2007?

Much of the $2.5 billion profit forecast for next year is being driven by improvements in North America, particularly the US, where large-scale restructuring is taking place in the industry.

This has led to some reduction in capacity this year, which in turn has played a major role in helping improve profitability of the US industry that has been a source of the bulk of the losses.

In fact, we expect to see some reduction in profitability at the operating and net levels during 2007 in airlines in both Europe and Asia.

Although Asia as a region has been producing the largest profits, in absolute dollar terms, Europe seems to have overtaken it this year, partly because they were fortunate in having more sensible fuel hedges whereas it has been much more difficult for airlines in India and elsewhere in Asia to effectively protect or insure their fuel bills.

It is only recently that airlines in India have been allowed to use hedging instruments to protect themselves.

Any numbers...

During 2006, at the net level, airlines in the Asia-Pacific region reported a profit of $1.7 billion — just behind Europe at $1.8 billion. 2007 is likely to be a slightly less profitable year. As a whole, this is because medium-term growth prospects are great for Asia, especially India, where you are seeing particularly strong economic growth that is going to help drive the market in the medium term.

However, with a lot of competition and capacity, yields are going to fall in the short term. In this sort of an environment, it is going to be more difficult for the industry, particularly as we are not expecting any fall in fuel costs.

How many countries constitute the Asia-Pacific region?

It is a large area, including Australasia, and includes airlines like Qantas. We, however, do not make forecasts for specific airlines. At the moment India is a particularly challenging environment for airlines to make money in.

I think most of the profits are being generated on the international longer-haul markets. In the medium term, the market should be profitable with a lot of value generated for investors, and certainly for passengers. This is not happening at the moment. I think it is important to learn lessons from the US and Europe, where liberalisation has already taken place and a lot of new entrants and airlines have actually struggled to make money because of the nature of the industry.

However, the most important thing is having a free market. Allowing the best players to come forward with innovative products and services. There also needs to be the freedom for mergers to take place and for the best management expertise to succeed.

What are your comments on the Indian Government's policy on mergers of airlines?

I would not like to comment on Jet-Sahara or the guidelines that the Indian Government has come out with. However, in Europe allowing an open market and mergers to take place and also allowing foreign ownership has been good for the industry and passengers. It has also been good for jobs.

You mentioned that overcapacity was not a cause for worry as demand would match that.

I am assuming that in the medium term there will be no problems with growth continuing at the pace we are seeing at the moment. Obviously, in the case of India, that would involve a lot of investment in infrastructure to allow that economic growth to continue.

One can never predict the future perfectly but looking at expected growth in passenger numbers it seems to be fairly well-matched with the new aircraft that are due to arrive. This is quite encouraging because in past economic cycles in other markets we have seen too many aircraft arriving and passenger numbers declining.

Going by forecasts made by Boeing and Airbus, India would require 1,000 aircraft. Do you think India will be in a position to build that kind of infrastructure?

I think it is going to be a challenge. But given the economic success so far, it should be possible. It is going to mean there will have to be a lot of investment. We are seeing this in the airline sector and now need it for airports also. As airports are moving to the private sector, there will have to be competition between players in that space.

There is also the need for good economic regulation to get better efficiency. The key is that we need efficiency in order to get the best benefits to passengers and businesses.

Do you see consolidation taking place among airlines?

Yes. I think so. What has generally been seen in any industry where there has been liberalisation is that you get a flood of new entrants before there is consolidation. I think the difficulties that we are seeing in the market are probably going to lead to some consolidation.

This is a part of a healthy market process. You will probably see some casualties as well. Again, I think this is a healthy feature of an open market where you have entrepreneurial owners coming in with new ideas, some of which work while some fail. A bit of consolidation will

probably help with the excess capacity that is pushing yields down. As I said, I don't think capacity is an issue in the medium term because there are such good growth prospects.

Do you feel airlines in India are justified in levying a congestion charge?

Any business has to charge a price that reflects the cost of supplying a service. I think what we are seeing is that because of lack of infrastructure investment, the delays and congestion are adding to the costs because of added fuel burn. And the airlines are trying to make that transparent to the customer.

But there are only a handful of airports in India where there is the problem.

I guess it depends on how that plays out through the network. That might be true for a point-to-point carrier, but if you are running a network airline, then your costs are spread across the network. A delay in one airport will have knock-on effects across that network. It is not clear to me whether that is unfair.

Besides we have seen fares come down tremendously and they are still coming down too fast for a profitable operation so I think passengers are getting a great deal and this is a response by the airlines to try and increase the pressure on governments and airports to provide for the capacity and efficiency that is needed.

So you are not against a congestion surcharge...

I don't think we have a position but I think there is a principle. The fare needs to reflect the full cost of providing that service, otherwise the airline is going to go out of business.