Countervailing Power: Evidence from the China Eastern and Shanghai Airlines Merger

Professor Emeritus Patrick McCarthy
About This Project

Professor Emeritus Patrick McCarthyBy Gita Smith

Patrick McCarthy is Georgia Tech’s expert on the benefits to large-scale Chinese airlines in the event of a horizontal merger. That is, two firms selling similar products in the same market. Together with co-authors Chun-Yu Ho and Yanhao Wang, the School of Economics emeritus faculty member’s study examined the outcomes when China Eastern and Shanghai Airlines combined in 2009. The research results, published in Journal of Air Transport Management, indicate that the sources of gain for the two merged companies were market power in domestic transportation and efficiency improvement on international routes. At the time of this merger, four other domestic airlines competed for passengers’ dollars. But overall, domestic competitors gained from a merger while international competitors lost.

McCarthy’s work extends the literature about airline mergers in three ways. First, it includes both domestic and international competitors in its analysis of corporate policy-making.

Second, previous studies do not factor in the reaction of upstream airports, an important factor as there is a strategic relationship between airports and airlines. There is a change in distribution of wealth between airlines and airports when a merger occurs. Decreased airline competition increases the merged firm’s ability to raise prices. Although the new (merged) China Eastern, as the dominant carrier in some airports, is also in a better position to bargain for lower fees (gates, counter space, landings), the merged airline does not gain countervailing power against its hub airport. The evidence suggests that the merged airline’s hub airport extracted some of the merged airline’s gains.

Finally, as a result of their research, this paper contributes to economists’ knowledge of the Chinese airline industry and its deregulation. For example, regulators required Delta and Northwest Airlines to reduce their dominant presence at some U.S. airports when they merged. China’s regulators approved the merger despite the large footprint of the merged firm at its hub airport. The study supports China’s approval of the China Eastern-Shanghai Airlines merger since its net effect did not significantly increase airline market power. More generally, identifying all the sources of gain will help regulators formulate effective competition policies for horizontal mergers.

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