Fuel Costs, Market Shifts Challenge Hub Paradigm

By Jens Flottau
Source: Aviation Week & Space Technology
July 08, 2013

It was almost exactly 40 years ago that FedEx founder Fred Smith had the idea of flying a small fleet of Dassault Falcon 20s into Memphis, Tenn., from various cities in order to unload and redistribute packages and fly off again. While his idea has long become the dominant paradigm across the legacy airline world, new threats are putting it to the test.

Smith was able to connect many more markets with each other than if he had tried to link all of them directly. This made little difference for the cargo, and when passenger airlines adopted the concept later, passengers may have minded having to make connections at first, but they soon discovered that airlines flew to destinations they would otherwise not have been able to serve. Some highly successful airlines, most importantly Pan American Airways, tried operating without a hub (Pan Am did not even have a domestic network) but failed when they suddenly had to compete with the likes of Delta Air Lines, which had the advantage of collecting a lot of additional passengers to whom Pan Am did not have access.

Hubs began to develop after the airline industry deregulation in 1978 as airlines gained the freedom to arrange their route networks as they pleased. Later, aircraft technology played a key role in increasing hubs' market penetration even further. Bombardier and then Embraer introduced 50-seat regional jets that allowed airlines to offer service to smaller communities they had not been able to serve with larger aircraft. The boom of the 50-seaters lasted many years, but high fuel prices have now made them uneconomical to fly in most markets and, while regional feeder airlines in the U.S. still operate large numbers of them, they clearly have no future.

That is part of the reason that the hub system has become a double-edged sword for the traditional hub operators. High fuel prices and competition from low-cost carriers (LCC) are making it difficult to sustain the short-haul connections that feed the long-haul services on which the hub operators so depend—in fact they have given up on many smaller markets, particularly in Europe and North America. At the same time, carriers such as Emirates and Turkish Airlines have established thriving hubs.

“The hub has to be understood as a factory to combine itineraries,” says Michael E. Levine, a former senior U.S. airline executive who is now a researcher and senior lecturer at the New York University law school. “It is an extremely valuable device.” The combination of many different passenger itineraries into one feeder flight makes more services economically feasible. But the aggregation can also reduce the number of spokes and city pairs. “Hubs are vulnerable to aggregate changes in demand and production costs,” says Levine. This does not occur in the direct-services networks operated by LCCs, so they can give up routes more quickly.

Demand has been weak in the developed economies for quite a number of years, but legacy carriers have tried to keep the hubs intact while pulling out of hub bypass services. Production costs have become the more serious threat, and with that Levine predicts “profound change” for hubs in the U.S. and Europe. The sharp rise in fuel costs has led to the loss of many smaller feeder markets that could previously be served with 50-seat jets. In Europe, even the future of 70-seat jets looks questionable, and the regional airline industry has been shrinking fast. Airlines are moving up to larger aircraft, but there is not an infinite number of markets that can sustain them and the larger the markets grow, the more likely they are to attract LCC competition.

Using larger aircraft also increases vulnerability, and the aggregate effects of pulling services described by Levine become greater, too. The loss of feed affects the nonstop services originating at the hubs, as well, because the connecting itineraries are missing, and could affect long-haul operations, although “people are willing to accept more inconvenience for long-haul,” Levine says.

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