86. AIRLINE COMPETITION (32ND REPORT,
Memorandum from the Department of the
Environment, Transport and the Regions
1. The House of Lords Select Committee on
the European Communities published its report on airline competition
on 11 December 1998. The Committee heard oral evidence between
4 June and 23 July 1998 from bodies including airlines, consumers
and regulators. This document is the Government's response to
the Committee's report.
2. The Committee's inquiry was prompted
by the European Commission's proposals to amend Regulations 3975/87
and 3976/87 (as amended), which apply the Community's rules on
competition (set out in Articles 85 and 86 of the EC Treaty) to
intra-EEA air services, entirely between or within EEA States.
The Commission's proposals would in effect extend the scope of
the existing Regulations to cover extra-EEA air services. At present,
both Member States (under Article 88) and the Commission (under
Article 89) have powers to investigate the competition aspects
of extra-EEA air services. Only Member States have powers to grant
exemptions from the competition rules set out in Article 85. If
the proposed Regulations were adopted, the Commission would have
the sole right to investigate and to grant exemptions in future
cases under EC competition law.
3. The Committee has produced a wide-ranging
report setting out conclusions which not only deal directly with
the Commission's proposal but which also comment on a number of
other issues separate from but related to the application of competition
rules, notably airline competition, the future development of
the global aviation industry, the allocation of slots, and the
ability of Member States to negotiate bilateral agreements with
4. There has been no progress on the Commission's
proposals. They were not considered during the Luxembourg, UK
or Austrian Presidencies and there is no indication that the German
Presidency is likely to table them for discussion.
RESPONSE TO THE COMMITTEE'S RECOMMENDATIONS
Competition in the airline industry
1. Airline competition should provide a good
deal for the consumer. The aim of the Competition Rules governing
the airline industry in the European Community, as in other industries,
should be to offer the consumer lower prices, a better quality
of service and greater choice. The airline industry is constantly
evolving and we are concerned that the way in which it operates
does not and will not achieve these goals.
1.1. The Government agrees that fair competition
between airlines should provide the consumer with lower prices,
better quality of service and greater choice. Securing user benefits
continues to be a key objective in the Government's consistent
support for greater liberalisation in the airline industry.
1.2. The UK has played a leading role in
the establishment and development of the single European aviation
market. In so doing, the Government has been mindful not only
of the interests of consumers but also of the potential commercial
opportunities for UK airlines. Last year, the Civil Aviation Authority
published its analysis of the first five years of the single European
Whilst acknowledging that the situation was not perfect, the CAA
concluded that where competition has developed it has often led
to substantial price reductions, for business as well as leisure
travellers, and to increased choice for customers and better value
for money. A number of major EU airlines have been privatised,
and even among those which have not, there seems to be a growing
recognition that a more commercial approach is needed. The rapid
spread of low-cost, low frills operators, particularly in the
UK, has been another striking development.
1.3. The aim of national and EC competition
rules is to ensure fair competition. The Government believes that
their proper application is in the interests both of consumers
and efficient airlines.
1.4. As the Committee observes, the airline
industry is rapidly evolving, and the Government recognises that
there is concern about the possible effects on competition of
the growth of global airline alliances. While the network benefits
of airline alliances undoubtedly have potential to create user
benefits, alliances may also cause detriment and thus may present
a challenge to the application of competition law. Because, historically,
the development of the industry has been rooted in the bilateral
system, regulators have relatively little experience of applying
competition law to international aviation, but the Government
sees no reason to doubt that an appropriate competition framework
can be established.
2. The continuance of any immunity or block exemptions
from the Competition Rules should be strictly justified in the
interests of consumers and the promotion of competition.
2.1. Block exemptions within the Community
are a matter for the European Commission. Article 85 prohibits
anti-competitive agreements and concerted practices between undertakings
which affect trade between Member States, but allows exemptions
for agreements and practices which promote competition and the
interests of consumers. The Commission may grant individual exemptions
from Article 85 in particular cases and block exemptions for certain
categories of agreements and practices.
2.2 Block exemptions are an administrative
convenience, negating the need to seek individual exemptions on
each separate occasion. Regulation 3976/87 gives the Commission
the powers to grant block exemptions for aviation services within
the Community. Regulation 1617/93 (as amended), exempted the following
categories of agreements: consultations on passenger tariffs which
assist interlining on scheduled services between Community airports;
slot allocation and airport scheduling in so far as they concern
air services between airports in the Community; joint planning
and co-ordination of the schedule of an air service between Community
airports; and joint operation of a scheduled air service on a
new or on a low density route between Community airports.
2.3 Regulation 1617/93 expired on 30 June
1998. The Commission has proposed an amending Regulation, published
for consultation on 28 November 1998, which would have retrospective
effect from 1 July 1998 and partially extend Regulation 1617/93
until 30 June 1999. Following an earlier round of consultation,
the Commission concluded that block exemptions were no longer
needed for agreements on joint planning and co-ordination of schedules
as well as agreements on joint operations. The amending Regulation
would extend the block exemptions for passenger tariff consultations
and for slot allocation at airports for a limited period only,
to allow the continued need for these block exemptions to be properly
2.4 The Government fully agrees with the
Commission that the continuance of any block exemptions from the
EC competition rules should be strictly justified in the interests
of consumers and the promotion of competition and therefore supports
the Commission in its moves to withdraw block exemptions which
are no longer justified.
2.5 Paragraph 104 of the Committee's report
refers to the equivalent mechanism in the US regulatory system,
the granting of anti-trust immunity to approved agreements. Anti-trust
immunity is used by the US authorities as an instrument of policy
rather than exclusively as a competition measure, but the UK has
no control over US Government action in this area.
3. Introducing normal competitive conditions
should be the clear objective for further regulation and development
of the airline industry.
3.1 As already indicated, the Government
fully supports further liberalisation in aviation. The Government
agrees with the Committee that the airline industry should, ultimately,
be subject to the same competitive conditions as other industries.
But, taking the EU and the US as an example, aviation is not directly
comparable to other international industries in which enterprises
operate on both sides of the Atlantic and are subject to two sets
of competition rules. Unlike the generality of other industries,
aviation (and shipping) services are produced and consumed between
the EU and the US. Airlines cannot separate their activities between
the two continents, or tailor their operational structures differently
in different places, in the way firms in other sectors can. As
a consequence, decisions by competition authorities at either
end of the route have a more pervasive impact on the operations
of the firms involved than might be the case in other industries.
3.2 As the Committee rightly observes, the
airline industry has received special treatment because of the
system of bilteral agreements which has developed over many years
and which continues to govern global aviation relations. The bilateral
system will take time to dismantle. The single European aviation
market is unique and has emerged from the strong political base
of the European Union. Member States have a great deal in common,
culturally, economically and geographically. This is significant.
It will be harder to establish liberalisation more broadly with
countries which have less in common and which have particular
interests of national carriers to defend. The Government is prepared
to support Community action towards this objective but it must
be taken forward on the basis of clear political agreement, respecting
the relative competences of the Community and Member States in
4. We consider that the present system of airline
regulation predominantly at the Member State level should not
continue. Responsibility for regulation of airline competition
should lie at the highest practical international level. In the
case of these proposals, this means the European Commission.
4.1 The Commission already has sole competence
for applying the EC competition rules to airline services within
the Community. Outside the Community, competence is shared between
the Commission and Member States under the transitional arrangements
provided in Articles 88 and 89 of the EC Treaty. Member States
have the sole power to grant exemptions under Article 85(3), but
the Commission has a power of investigation and it may authorise
Member States to take measures to end any infringement of the
competition rules it finds.
4.2 The Government accepts that in the long
term the Commission may assume sole responsibility for deciding
competition cases affecting extra-Community routes as well as
those affecting the internal market. But, as the Department of
the Environment, Transport and the Regions (DETR) made clear in
its evidence to the inquiry, the Government believes that competence
for the application of the Community's competition rules should
move in parallel with competence to negotiate traffic rights.
Until now, Community legislation has followed this path, with
the application of competition rules first to air services between
Member States and then to services within Member States reflecting
the gradual development of the single aviation market. The Government
maintains its view that this is the correct way to proceed.
4.3 The Government believes that the present
legislative position properly reflects the respective competences
of individual Member States and the Community in their aviation
relations with third countries. The Committee concluded, in paragraph
130 of its report, that it would not support the Commission negotiating
bilateral agreements on behalf of the European Community without
a political mandate from the Council of Ministers. The Government
entirely agrees. That is why we cannot accept that the Commission's
proposals should be adopted before such agreement is forthcoming,
as they would seriously restrict the ability of Member States
to continue negotiating bilateral agreements effectively.
5. The Commission could apply the Competition
Rules more efficiently and consistently than Member States have
done to date.
5.1 The Government accepts that if the Commission
had exclusive competence to apply the Community's competition
rules there might be gains in consistency, and it also recognises
the attractions of a "one stop shop". However, the Commission
already exerts a considerable influence in the application of
the rules to extra-Community air services. The ongoing investigations
into the proposed British Airways/American Airlines alliance,
conducted by both the UK competition authorities and the Commission,
demonstrate this point clearly. One advantage of the present system
is that the Commission and Member States' competition authorities
co-operate and may pool their experience, which can enhance the
quality of decision-making of both.
5.2 A number of witnesses expressed concern
at the speed at which the Commission currently deals with competition
cases. If the Commission does at some point assume sole responsibility
for applying the rules, all parties will wish to be reassured
that the Commission has the capacity to deal with cases effectively
and in good time.
6. We do not accept that the Commission would
use competition policy as more of a political tool than Member
State governments do. A political and commercial agreement on
what should be contained in the block exemptions should minimise
the ability of the Commission to exploit competition policy from
a political motive.
6.1 The Government is not clear who suggested
that the Commission would use competition policy as a political
tool, and would not support such a view. Further comments on this
are expressed in our response to recommendation 26 below. As the
response to recommendation 2 above makes clear, block exemptions
are merely an administrative convenience to save airlines from
having to apply for individual exemptions in areas where co-operation
is clearly not anti-competitive. Block exemptions are set out
in Community legislation which is subject to prior consultation
with interested parties and Member States.
6.2 As we have already made clear, the Government
fully supports the regular review of the continued need for block
exemptions which have already been granted. If Community competence
is extended to application of EC competition rules on extra-Community
air service, we would expect such an approach to continue.
7. The proposed Regulations could achieve a greater
degree of transparency in the application of competition policy
7.1 It is not clear how the proposed Regulations
would, in themselves, achieve a greater degree of transparency,
as they would merely affect who applies the rules rather than
how the rules would be applied. As the DETR stated in its evidence,
the Government believes there is scope for greater transparency
surrounding the Commission's administrative procedures in applying
the EC competition rules within the Community. This is particularly
true when the Commission decides not to pursue a complaint as
it is not always clear how the Commission arrived at its decision.
It is acknowledged, however, that once the Commission has decided
to open proceedings following an initial complaint, a fair balance
is generally maintained between the conflicting claims of transparency
and the need to protect commercial confidentiality.
8. The airline industry should, in the
long run, be treated as any other industry in terms of the Competition
8.1 The Government generally supports the
principle that normal competition law should apply to international
scheduled aviation. The Competition Act 1998 broadly achieves
this aim by extending the newly-consolidated UK competition regime
to international aviation. But aviation is by definition an international
business, largely governed outside the Community by a system of
bilateral agreements, and subject for historical reasons to a
wide range of Government controls in different parts of the world.
The transition from a regime in which competition is "managed"
by means of tightly-drawn bilateral agreements to a regime in
which airlines can freely offer services subject to the application
of normal competition rules would be a substantial shift, both
in policy and in practice. This is bound to be a gradual process
as it would be subject to agreement from a wide range of third
countries, many of whom would resist such change.
8.2 Pargraph 111 of the Committee's report
recommends that the Commission should, over time, limit the kinds
of activity that would be permitted under block exemptions. As
explained in the response to recommendation 2 above, block exemptions
are an integral part of the way in which the EC competition rules
are applied and the Government fully supports the systematic review
of such exemptions to ensure that they continue to be justified.
9. While we acknowledge the logic of the argument
put forward for an independent European competition authority,
we do not consider either that it is necessary or that it would
9.1 The Government shares the Committee's
scepticism about the potential benefits of an independent European
Winners and losers
10. We note concern that liberalising airline
services with third countries might lead to a highly concentrated
industry but we believe that, with the strict application of competition
policy (in terms of controlling cartel activities, dominant positions,
mergers and state aids), this can be avoided.
10.1 The Government assumes that the underlying
concern here is a fear that liberalisation with third countries
will, if unchecked, lead to a concentration of the industry as
ownership restrictions are relaxed, and that industry concentration
will lead to a diminution of competition. The Government believes
that industry concentration does not inevitably have to mean less
competition at the route level if it results in a greater overlap
of competing airline networks, but recognises that vigilance by
the competition authorities is needed to check any undesirable
behaviour that restricts competition.
11. Airline carriers in the United Kingdom would
be well placed to cope with increased competition under the proposals,
given the advanced state of deregualtion of the industry in this
country, and may do well in the longer term.
11.1. The Government agrees with the Committee's
The needs of the consumer
12. The needs of the consumer should be paramount.
Competition between airlines should ultimately be for the benefit
of the consumer in terms of price and quality of service, and
in this respect, the maintenance of "national" airlines
12.1 The Government agrees with the Committee
in opposing the maintenance of inefficient airlines for reasons
of national policy. Over recent years a number of state-owned,
EC airlines have been in receipt of state aid. Such subsidies
distort competition and are unfair to those airlines which do
not receive any aid, including all UK airlines. Nor is it in the
interests of airline passengers to provide financial support to
inefficient airlines with higher operating costs. The UK Government
has actively opposed the granting of state aid to airlines and
welcomed the Commission's statement in its July 1997 decision
approving state aid to Alitalia that it did not expect there to
be any further cases of state aid to airlines in the future. We
very much hope that is the case and that from now on all European
airlines will compete on an equal commercial basis.
13. We recognise that in certain circumstances,
for instance when there is no competitive interest in serving
a certain route, it would be necessary for essential services
to be maintained by government subsidy. Consumers across the European
Union could benefit from competition rules being applied at the
European Union level.
13.1 The Government is, as a matter of principle,
opposed to state aid in the air transport sector but accepts that
in certain limited circumstances there may be a need to provide
financial support for uneconomic but socially necessary air services.
Council Regulation 2408/92 allows a Member State to impose a public
service obligation (PSO) to protect services which would otherwise
not be provided on a purely commercial basis on routes serving
airports in peripheral regions and thin routes to any regional
airport which is vital to the economic development of the region.
The Regulation allows for PSO routes to be restricted to a single
carrier, subject to an open competitive tender, and for the remuneration
of operating losses incurred by carriers selected to operate these
routes. A PSO can only be imposed on a route involving a regional
airport, subject to certain narrowly defined criteria. The UK
has imposed PSOs on a number of lifeline air routes to, from and
between the Scottish Highlands and Islands which are considered
essential for the economic and social welfare of these remote
13.2 The more general issue of the application
of the competition rules is dealt with in the response to recommendation
Barriers to competition
14. Action should be taken at the Community level
to ensure airlines are able to compete in a normal competitive
environment free from ownership restrictions, thereby making code-sharing
alliances less prevalent in the longer term.
14.1 The Government agrees that the traditional
restrictions on ownership and control of airlines hinder the development
of competition and are no longer appropriate. The UK's work to
break down these restrictions is detailed in the response to recommendation
27 below. Within the Community, of course, national ownership
restrictions have already been broken down as any airline majority
owned by a Member State or its nationals may operate within or
between any other Member States. It is clear, however, that at
the wider international level the removal of ownership restrictions
can be addressed only on a reciprocal basis.
15. In our view, the current system of slot allocation,
based on the retention of grandfather rights, is clearly anti-competitive.
15.1 The preamble to EC Regulation 95/93,
which governs the slot allocation procedure at airports within
the EU, places it in the context of the Community policy of facilitating
competition and encouraging entry into the market, with preferential
treatment for carriers who intend to start operations on intra-Community
routes. Analysis by the Civil Aviation Authority indicates that
it has not been successful in enabling new entrants to become
established at congested airports such as Heathrow and Gatwick.
But the Government believes the principal reason for this to be
capacity constraints at the two airports. In addition, it should
not be overlooked that, in the London airport system as a whole,
there has been a substantial growth in intra-Community scheduled
services competing on the same routes from Stansted, Luton and
London City airports.
16. We believe that there is now a pressing need
for a new Slot Regulation which radically alters the rules governing
the allocation of slots at Community airports. This is fundamental
to ensuring a competitive airline industry, both in the European
Community and world-wide. The question of slot ownership should
16.1 Proposals for a revision of 95/93 are
awaited from the Commission. They are overdue, and indications
are that they may not be forthcoming in the near future. It is
difficult to comment on possible changes without seeing an overall
package of measures.
16.2 The Government has made clear its view
that slots are not the property of the airlines which occupy them.
However, the concept of slot "ownership" is a legally
complex one over which different views have been expressed, and
where there is currently no relevant case law. It can be argued
that, given the existence of grandfather rights within the current
regime, occupancy rather than ownership is the key consideration
relating to the use of slots.
17. The system of grandfather rights is now increasingly
anomalous and anti-competitive and this system combined with the
flexibility afforded to airlines to switch slots between routes
provides incumbent airlines with too powerful a tool against its
current and potential competitors.
17.1 By definition, historic or "grandfather"
rights work to the advantage of incumbent airlines. They are an
internationally recognised principle within the aviation industry.
They enable airlines to plan on the assumption that they will
be able to use the slots that they currently hold in future seasons,
provided that they meet the conditions of minimum use set out
in the EG Regulation, and hence to take a long-term view in developing
routes and their wider network of services, and in planning investment.
But the effect at congested airports is to make it considerably
more difficult for new entrants to start up viable competing services.
We understand that the Commission is considering the issue of
grandfather rights in preparing proposals for revising the slot
allocation Regulation. The Government will study these with interest
when they appear.
18. We urge the Commission to use its existing
powers to suppress anti-competitive practices and abuses of dominant
positions by airlines at Community airports.
18.1 The UK Government supports any moves
that support the principle of open competition in a free internal
19. We urge the Government to consider allocating
a number of slots at major airports to maintain regional air services.
19.1 The UK has already made proposals to
the Commission that priority in the allocation of slots not claimed
under historic precedence should be given to airlines that wish
to use the slots for services to regional airports, rather than,
as at present, to new entrants. And in A New Deal for Transport,
the Government said that it would press for recognition in any
revised EC regime for slot allocation of the case for maintaining
access from regional airports into major hubs such as Heathrow
20. No airline should be allowed to dominate
slots at any particular airport to the extent that they have unfair
and anti-competitive access. The promotion of competition between
airlines should be the aim of any new system of slot allocation.
The objective in the long run should be an open and competitive
slot allocation system.
20.1 Both the European Commission and the
Office of Fair Trading have powers to investigate abuse of a dominant
position, and to consider the effect on competition of proposed
alliances and take-overs. The Committee will have noted that the
resultant increase in BA's share of slots at Gatwick was a contributory
factor in the recent decision to refer the acquisition of CityFlyer
Express by BA to the Monopolies and Mergers Commission.
20.2 Congestion at hub airports, and the
delays and difficulties that may be encountered in expanding capacity
to meet growing demand, mean that the slot allocation regime must
have regard to making the most efficient use of slots as well
as to competition considerations.
21. Linking slots to routes is a positive step
towards regulating airline behaviour and one that could be extended
to enhance competition.
21.1 To tie slots to particular routes would
tend to have the effect of causing the market to ossify, by preventing
airlines from altering their service patterns and frequencies
to meet market demands. As such, it would be likely to reduce
rather than increase competition. It would also prevent airlines
from swapping slots to enable timetabling changes that can benefit
both carriers, and their passengers.
22.1 The Government shares the view that
there are ambiguities in the current Regulation that should be
removed in any forthcoming revision. It agrees that promotion
of the public interest should be paramount. On occasions, for
instance in the treatment of regional services into congested
hub airports, this may entail some constraints on competition.
23. Whilst we recognise that there may be legal
complexities to overcome, ultimately we believe that slots at
each Member State's airports should be treated as national assets
of that Member State. Airlines should bid for the use of slots
within criteria set by the European Community.
23.1 As indicated in the response to recommendation
16 above, the legal situation regarding slot ownership is complex,
and the implications of any changes to existing arrangements would
need careful consideration. The Government takes the view that
as things stand, airlines do not have property rights in the slots
that they occupy. Some parties have argued for the auctioning
of slots on a time-limited basis as the best means of supporting
competition. Others suggest that this could simply tend to favour
the large carriers with the greateast financial clout. While the
existing system of grandfather rights remains, only newly created
slots or ones returned to the allocation pool could be auctioned,
and this could have only a marginal effect on competition. Given
the substantial excess of demand for slots at congested hubs over
the available supply, any method of allocating slots, formerly
the subject of grandfather rights, other than auction would be
contentious with disappointed airlines. Allegations of favouritism
might arise. This could work against the Commission's objective,
supported by the UK Government, that slot allocation should be
based on neutral, transparent and non-discriminatory rules.
Bilateral air services agreements
24. The true negative effects on competition
within the European Community come from distorted competition
between the European Community and other large airline markets,
notably the United States.
24.1 As indicated in the response to recommendation
4 above, the Government believes that the extension of Community
competence to implement the EC competition rules should proceed
in parallel with the extension of competence to negotiate traffic
rights. So, as the Commission has already been granted a mandate
to negotiate with the 10 Central and Eastern European countries,
we believe that it is entirely logical that it should assume sole
responsibility for applying the EC competition rules on extra-Community
air services to these countries, but not more generally. The Government
accepts the Committee's assertion that concerns about potential
market distortion are more significant on trans-Atlantic routes
than in wider geographical Europe, but it does not change our
view that competence for negotiating traffic rights and for applying
competition rules should proceed in parellel.
Should airlines be treated differently?
25. Airlines have been afforded special treatment
in the European Community's competition policy for historical
reasons. We believe that these reasons are just thathistoric.
While we fully recognise the importance of safety standards and
controls in the airline industry we believe that these should
not inhibit the creation of a more competitive airline industry
25.1 As already indicated, the Government
fully agrees with the goal of creating a more competitive airline
industry world-wide. This would bring clear benefits to consumers
and we believe that UK airlines would be well placed to take advantage
of new opportunities. The Government also accepts that the current
competitive situation is the legacy of the development of the
bilateral system since the 1940s. But as indicated earlier, just
because a system is outmoded does not mean that it is easy to
dismantle, particularly when many States outside the Community
regard it as in their national interests to maintain restrictive
26. Member States' governments are as culpable,
if not more so, than the Commission for playing politics with
airlines, because the Commission would have to balance the competitive
needs of airlines from all 15 Member States in its decision-making.
It should not, therefore, have a relationship with any particular
26.1 This Government does not "play
politics" with airlines. We have a multi-airline industry
in the UK and we want to see all our airlines thrive in a competitive
environment. Our objectives in negotiations with third countries
are to promote liberalisation and to secure benefits for UK consumers.
These objectives can bring benefits to UK airlines too, through
greater access to world markets. The Government does not believe
in using airlines, whether UK or foreign, as pawns in wider political
27. The real issue affecting airline competition
world-wide is the continuing existence of ownership and control
restrictions, particularly in the European Community and the United
States. Removing these ownership and control restrictions is a
vital step towards achieving a truly competitive global airline
27.1 The Government agrees that the traditional
restrictions on ownership and control of airlines hinder the development
of competition and are no longer appropriate. That is why it has
already (in 1997) amended the United Kingdom's model Air Services
Agreement (ASA) so that it no longer requires airlines to be majority
owned and effectively controlled by nationals of the state designating
the airline. In line with the recommendations of the ICAO Air
Transport Regulation Panel, which stressed the need (to ensure
effective safety oversight and prevent the emergence of flags
of convenience) for a strong link between an airline and the designating
state, we now require an airline to be established and have its
principal place of business in the state of designation, and to
hold an Air Operator's Certificate from that state. The nationality
of the owners and managers of the airline is no longer material.
27.2 Several bilateral agreements adopting
this more liberal approach have already been concluded with other
states. To stimulate a more widespread adoption of this policy,
the United Kingdom has been working within ECAC (the European
Civil Aviation Conference) with a view to agreeing a model article
replacing traditional ownership and control restrictions by a
focus on the strong link referred to above. The UK's approach
has met with widespread support, and agreement on a final text
is expected in March.
30 The Single European Aviation Market: The First Five
Years-Civil Aviation Authority-ISBN 0 86039 736 X. Back
A New Deal for Transport: Better for Everyone-(Cm 3950)-ISBN
0 10 139502 7. 22. The new European Community Slot Regulation
should set clear and effective criteria for the allocation of
slots, and that promotion of competition and the public interest
should be the most important elements. Back