Why More Aircraft Competition Is Bad for the U.S. Economy, Not Good for Consumers

May 1, 2018

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Two decades or so from now, when they write the history of how America lost its competitive edge and in the process millions of high wage jobs, one group in particular will stand out for reproach: economists, or should I say the majority of economists and their fellow travelers who subscribe the neoclassical doctrine.

As a group, these experts regularly council policymakers to be indifferent to the industrial make-up of the U.S. economy, telling them, “Potato chips, computer chips, what’s the difference?” For them, only one thing matters: highly competitive markets that drive down prices for consumers. If that comes as a result of foreign producers propped up by mercantilist policies taking market share in U.S. industries, and taking good American jobs with them, who cares? After all, consumers are supposed benefit from slightly lower prices, at least for a while. So goes the thinking and the counsel, and it is a rare politician who will risk deviating from this scripture and be exposed to criticism from the economics priesthood.

A case in point is a Washington Post story by Steven Pearlstein, “Boeing and Airbus, the new super duopoly.” For Pearlstein, the fact that Airbus and Boeing are the only two major producers of mid-size and large commercial jets, and that they both recently announced mergers with the two major producers of smaller regional jets (Embraer and Bombardier), is evidence of anti-consumer behavior that antitrust authorities must stop. Yet, Pearlstein’s arguments are more from an Economics 101 textbook where all firms compete on the basis of market forces and no nation would dare pick winners—or at least if they did, they would pay a severe price for it.

When it comes to aviation, Economics 101 is a children’s fairy tale. For the reality is that Boeing competes against deep-pocketed rivals backed by governments. Let’s start with Airbus, which was formed by European governments seeking to create and prop up a continental champion. As a recent WTO case found, Airbus has benefited significantly from $22 billion in subsidies, including “launch aid”—i.e., cash to help build new airplanes. Moreover, Airbus enjoys a somewhat captive domestic market. As we show in our book Innovation Economics: The Race for Global Advantage, in the early 2010s Air France operated a fleet that was 71 percent Airbus; Lufthansa’s fleet was 62 percent Airbus; Alitalia’s 71 percent; and Iberia’s (Spain’s major airline) 100 percent.

But outside of Europe we see a quite different market share. Just 15 percent of All Nippon Airways (ANA) and Japan Airlines planes were Airbus. Korean Air, Malaysia Airlines, and Singapore Airlines bought 22 percent, 29 percent, and 13 percent of their fleets from Airbus, respectively. That the overwhelming share of the European airline fleet is Airbus clearly suggests untoward government influence (designed to prevent imports) in the selection of aircraft by European carriers. This protected home market (coupled with government subsidies) enables Airbus to cover the high fixed costs of developing airplanes in order to then compete with Boeing in the rest of the world.

But Airbus is small potatoes compared to the looming threat from China. In 2008, China established the Commercial Aircraft Corporation of China (Comac) as a state-owned manufacturer. It started with $2.8 billion in capital from the central government and became eligible for a $4.4 billion line of subsidized credit from Chinese state-owned banks. It has enjoyed free land and other subsidies from local and provincial governments. And unlike Boeing and Airbus, it doesn’t need to make a profit, because it is a state-owned corporation.

Pearlstein acknowledges the existence of foreign subsidies, but he dismisses them out of hand, saying that Boeing too has benefited from subsidies. This ignores the reality that Boeing “subsidies” were vastly smaller than Airbus and Comact subsidies and that none of them were for launch aid (most were state and local economic development incentives to keep or create jobs). But this matters not; for Pearlstein and other followers of the neoclassical faith, if you have accepted one dollar of government subsidies, this is the Mark of Cain; you are a sinner, as much as one who received tens of billions of dollars. All sinners be damned.

Perhaps the biggest error Pearlstein makes is that he seems to equate the airline industry to an industry like dry cleaning. The former enjoys massive economies of scale, while the latter does not. There is a reason why no capitalist or bank would fund a third long-haul aircraft company: The economies of scale are so great for this industry that the global market, working on its own without mercantilist picking of national champions, has settled on two players as the most efficient industry structure. So let’s be perfectly clear: The free market would never ever have funded the creation of Comac.

Consider that it took Boeing almost eight years of development work and an expenditure of more than $15 billion before a single 787 Dreamliner, the first carbon fiber jet airplane, was sold. That $15 billion has to be built into the overhead of every 787 sale. If the market for these new planes shrinks, for example through unfair government subsidies going to Europe’s Airbus and China’s Comac, then Boeing will be less able to invest in the next innovative jet. Economists refer to this as increasing returns to scale. But with government-subsidized global over-capacity, Boeing will by definition have less money to invest in the next major aircraft innovations, much less a new space plane that could travel from New York to Tokyo in a few hours.

The truth is aviation consumers would not be better off with more competition; they’d be worse off. First, if Comac were to take most China sales and much of the sales in nations that have lashed themselves to the Chinese government’s Silk Road bribes, it would mean, by definition, fewer sales for both Boeing and Airbus. This in turn will raise the marginal cost of each new jet coming off the assembly line. So even if Boeing profits go down, the price of planes will go up because the average cost of building a single jet plane will go up.

Of course, if the worst actually happened—that Boeing went out of business because it couldn’t beat the deep-pocketed Europeans, Chinese, and Russians—then not only would consumers would be worse off, but so would workers and the U.S. economy. The fact that the value-added per worker in the aerospace industry (that is, the amount of value that each worker adds to the materials and parts they get) is among the highest of any industry, at $133,000 per year, suggests that losing jobs in this industry impoverishes America.

So Pearlstein and others who prioritize competition above all else and who refuse to accept that some industries need scale in order to lower costs, boost innovation, and compete globally risk leading America down a path where we attack our global leaders, generating perhaps some short-term consumer gains, but at the cost of very large medium and long-term economic losses. As Mike Lind and I document in our new book Big is Beautiful: Debunking the Myth of Small Business, the U.S. has been down this road before, with disastrous consequences, such as when antitrust authorities forced global leaders like RCA, IBM, and Xerox to give away their technologies to help competition. All it did was to help the Japanese. We dare not risk a similar path today, for China is a massively more formidable competitor than Japan ever was.