Will cheap airline prices remain?

Inflation has been a hot topic, both in business, as well as in mainstream media and the price increase of goods and services has indeed been rapid in many countries around the world. The current inflation figure is at 4.9% in the Euro area and it stands at 6.2% in the U.S. as of October, which is the highest figure in more than three decades.

One stark exception to the above is the price of airline tickets in general. As – mostly international – travel practically collapsed, airline companies suffered terribly. They cut back the number of flights between locations while completely removing some between less busy destinations. Even with a reduced schedule, they generally couldn’t fill their operating aeroplanes to levels seen pre-pandemic: in technical terms both overall demand for flights and the load factor of those flights were low. This resulted in airline prices dropping substantially in a number of locations: it wasn’t rare to be able to buy an airline ticket for as little as 10 euros to travel within Europe while a round trip to North America could even cost as little as 200 euros.

Airlines tend to manage their load factor by constantly changing the price of their tickets to fill the plane and get maximum revenue. If the load factor is low, an airline will increase the availability of cheap fares while if the load factor is high and demand is high, the airline will raise prices.

Even though current ticket prices are very favourable, we can expect the situation to change in the medium term due to several factors. Firstly, high energy prices add extra costs to the airlines’ operations. One of the most important input costs for airlines is the price of oil and jet fuel, its derivative product used for fuelling aeroplanes. Oil prices have been hovering around $70 a barrel lately, and they are not forecasted to go substantially lower in the following period, quite to the contrary, there were projections for a barrel hitting $100 or even $200 in the medium term. These increasing energy costs ought to generate a push factor upwards for airline fares.

Another factor is labour costs. In line with other industries, a lot of airline companies dismissed some of their staff in 2020. However, as the world was recovering from COVID, unemployment figures reached pre-pandemic levels, the labour market tightened up, putting employees in a better negotiating position. Thus now when airline companies are re-hiring employees, they can only do that at higher salary levels. These costs – at least to some extent – will need to be reflected in airline ticket prices.

Thirdly, the expansionary monetary policy that the world has been experiencing in the past years is most probably about to end with central banks reducing Quantitative Easing programmes and even increasing the central bank interest rates. A higher interest rate environment is less friendly for businesses, especially those that operate with higher amounts of leverage. Airline companies would generally fall into this bracket.

Additionally, a structural change could be perceived when it comes to the composition of travellers. Even though air travel numbers have been increasing during 2021, most of the increase could be attributed to the increase in tourism. Travel for business purposes has remained low and is not expected to return completely to 2019 levels. According to some analysts’ estimates in the best-case scenario, it will consolidate around 80-90% of pre-pandemic business passenger volumes. Companies realised that a substantial share of meetings can be done online, adjusting their approach towards business travel. This seems to be a sticky phenomenon and is having a long-term dampening effect on the demand for business travel. Since a business-class trip in some instances costs 4 to 5 times more than the same trip in economy class, some airlines will lose out on their most profitable revenue

stream that will eventually hurt their margins. Consequently, they could be expected to increase prices to counteract this effect.

We can conclude that most market forces are pointing towards more expensive airline prices in the medium term. In case the COVID Omicron variant proves to be a more significant problem and countries will need to resort to more stringent lockdown measures, in the next 6 – 9 months we could still see low demand and therefore lower ticket prices however in the period after that most factors are pointing towards elevated price levels. In a more favourable Omicron scenario, demand could pick up even sooner and consequently even airline ticket prices could follow suit.

Disclaimer: This article was issued by Tamas Jozsa, Research Analyst at Calamatta Cuschieri. For more information visit, www.cc.com.mt. The information, view, and opinions provided in this article are being provided solely for educational and informational purposes and should not be construed as investment advice, advice concerning particular investments or investment decisions, or tax or legal advice.