Competition in the Canadian Airline Industry

Konrad von Finckenstein
Commissioner of Competition
Competition Bureau

Remarks to the House of Commons Standing Committee
on Transport and Government Operations

May 8, 2001

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Introduction

I would like to begin by thanking the Committee for inviting the Competition Bureau to provide its views on issues relating to competition in the Canadian airline industry.

I am accompanied today by Madeleine Dussault Assistant Deputy Commissioner - Civil Matters and David McAllister, a Senior Competition Law Officer in the Civil Matters Branch.

The Committee has set an ambitious agenda to study the current state of airline operations in Canada and since time is limited, I propose to get to the heart of what I expect are three key questions on which the Committee may wish to hear from the Bureau. In summary, these are as follows:

The State of Competition

The failure and subsequent acquisition of Canadian Airlines by Air Canada has dramatically reduced the level of competition in domestic airline markets. Prior to the merger, consumers benefited from competition between two full service airlines on the largest 200 domestic city pair routes. Air Canada, with approximately 55% of the market and Canadian which had approximately 30% also offered consumers competitive choices through their affiliation with the two leading international airline alliances.

Since the time of the merger, there have been some developments affecting competition in the domestic market. WestJet has expanded eastward. CanJet entered the market in eastern Canada and Royal expanded its scheduled services. In addition Skyservice Airlines, through Roots, sought to carve out a niche in the business market between Toronto and western Canada. However, within the past two months, both Royal and CanJet were acquired by Canada 3000. Roots Airline commenced operations only six weeks ago and suspended service May 4 pending a strategic partnership (which we consider a merger under the Competition Act) with Air Canada to launch a low-cost service. The Bureau will be closely examining the arrangements entered into by Air Canada with Skyservice.

With the presence of WestJet and Canada 3000, some competitive alternatives are developing, but only to a limited degree. This competition is largely confined to major urban centres and primarily for the leisure or the time insensitive sector of the business market. Even with the growth of Canada 3000 and WestJet, Air Canada is 13 times larger than its next competitor in terms of domestic passenger revenues. Air Canada has virtually no effective competition for business travellers and most local and regional markets remain monopolies.

The inability of CanJet , Royal and now Roots to operate profitably suggests that while entry into the scheduled domestic market may be possible, there are serious doubts about the ability of such firms to remain as sustainable competitors in the face of Air Canada's dominance

The need for significant legislative and regulatory changes to promote competition in the airline industry remains strong. In advising the Government of the issue of airline restructuring in October, 1999, the Bureau made the following three recommendations:

The current market structure of the Canadian airline industry, where one player holds in excess of 70% of the market and the remaining share is fragmented among smaller rivals, is not optimal from a competition perspective. In order for the industry to become more competitive, the changes recommended above to increase foreign competition are necessary.

Undertakings by Air Canada

I am pleased to report the undertakings made by Air Canada to the Competition Bureau have had some positive impact of reducing non-regulatory barriers to entry. By way of example:

• Air Canada has given up 42 peak hour slots at Toronto's Pearson airport that have been used by new entrants and existing competitors such as Royal, CanJet, Canada 3000 and Roots.

• Air Canada is required to sell its Aeroplan points on commercially reasonable terms to any carrier with less than $250 million in annual revenues from domestic passenger services. Royal took advantage of this undertaking to offer Aeroplan points on its flights, but is no longer eligible under the revenue threshold following its acquisition by Canada 3000.

• WestJet has been able to use Hamilton International Airport to enter markets in Eastern Canada. Air Canada had secured all of the facilities at Hamilton but was required to release, assign or sublease these facilities to any discount carrier offering domestic service in Eastern Canada.

In addition, the undertakings have delayed Air Canada from commencing its own discount airline in eastern Canada until September, 2001. Concern had been expressed at the time of the merger that if Air Canada had been able to launch such an operation, it might have foreclosed the opportunity for new competitors to enter the market.

Enforcement Experience

On July 5, 2000 Bill C-26 was enacted enabling the Government to specify by regulation, conduct which would constitute a practice of anti-competitive acts in the airline industry. This was done for the purpose of enforcing the abuse of dominance provisions of the Competition Act. These regulations, which I first tabled before this Committee on April 12, 2000, were finalized and came into force on August 23, 2000.

Bill C-26 also empowered the Commissioner of Competition during the course of inquiries under the Act to issue temporary cease and desist orders. Temporary orders can only be issued under certain conditions to preserve competition before a case can be brought before the Competition Tribunal. The first, and to date the only, temporary order was issued against Air Canada in the CanJet investigation on October 12, 2000. This is an extra ordinary power that the Bureau must use prudently and only when circumstances fully warrant it.

Over the past year enforcement activities related to the airline industry have been a major priority for the Bureau. I will share with you what I can having regard to the confidentiality provisions of the Act relating to the conduct of inquiries and the fact that certain matters are currently before the Courts for adjudication

The Bureau has not received any complaints raising issues under the access to essential services and facilities provisions of the regulations. What has emerged as the key issue, and by far the most difficult one, is that of predatory pricing. The Committee will appreciate that distinguishing between aggressive and legitimate competition and predatory conduct that may harm consumers over the longer run can be difficult.

Since March 2000, the Bureau has received nine of what we would consider significant complaints by smaller carriers against Air Canada. Of these nine complaints, only two, WestJet and CanJet's, resulted in formal inquiries and on March 5, 2001, we filed an application before the Competition Tribunal encompassing the evidence obtained in both of these inquiries.

Prior to filing the application with the Tribunal, the Bureau released on February 8, 2001, "Enforcement Guidelines on The Abuse of Dominance in the Airline Industry" outlining the approach it will take to enforcing the new legislation and regulations pertaining to the airline industry. These guidelines specify that a dominant airline, in order to comply with the Competition Act, must offer flights at above avoidable costs, and set out how such costs should be calculated.

Although the Bureau believes that the avoidable cost standard provides substantial flexibility for Air Canada's pricing, the approach set out in these guidelines is disputed by Air Canada. In view of the complexity of the issue and the differences between the Bureau and Air Canada on the approach, the parties have agreed to have the Competition Tribunal rule on the proper application of the avoidable cost test on an expedited basis. Public hearings on the application will commence this summer. This approach will, we hope, provide clarity for all stakeholders as to the limits on Air Canada's pricing and capacity conduct in the market necessary to safeguard competition.

In addition to pursuing investigations, the Bureau has also faced a number of legal challenges from Air Canada. These have included a challenge to the Commissioner's powers under section 11 of the Act to subpoena information and three challenges to the authority of the Commissioner to issue temporary orders under the new provision of section 104.1. Each of these has been or is being vigourously defended.

Summary

The recent entry and consolidation, which has occurred in the market, has not changed the fact that Air Canada remains in a dominant market position. Air Canada does not currently face effective competition on a national basis, or for the important business sector where flight frequency and network connections are imperative.

The new provisions introduced to the Competition Act to respond to potentially anti-competitive behaviour on the part of Air Canada are helpful, but will not on their own be sufficient to create a competitive domestic airline market. For this to occur the domestic market should be opened to greater foreign competition, along the lines of our October 1999 letter.

Thank you for your attention. We will be pleased to answer any questions members of the Committee may have.