Review of Industrial Organization
13: 523–541, 1998.
1998 Kluwer Academic Publishers. Printed in the Netherlands.
Is Airline Price Dispersion the Result of Careful
Planning or Competitive Forces?
KATHY J. HAYES
Department of Economics, Southern Methodist University, Dallas, TX 75275-0496; and Federal
Reserve Bank of Dallas, Research Department, Dallas, TX 75265-5906, U.S.A.
LEOLA B. ROSS
Department of Economics and Finance, Seattle University, Seattle, WA 98122-160, U.S.A.
Abstract. We develop a model of price dispersion to distinguish the impact of price discrimination
from that of peak load pricing schemes or atypical competition resulting from the ﬁnancial difﬁculties
of the early 1990s. By utilizing three alternative measures of dispersion and appealing to economic
theory for our speciﬁcation, we ﬁnd robust results suggesting an estrangement between price dis-
persion and price discrimination. While some discrimination continues to persist at monopolized
endpoints, most dispersion is associated with fare wars and peak load pricing schemes.
Key words: Price dispersion, price discrimination, airline markets.
The rampant dispersion in domestic air fares has captured the attention of econo-
mists and travelers alike. Such diversity in prices could be driven by differing
sources. First, fare wars result from a failed attempt among the major carriers
to sustain marked up prices and create high variances. Second, discounted fares
may be found in the absence of a fare war. After accounting for differences in
costs, such dispersion could be explained by monopoly power and be labeled price
Unraveling the determinants of price dispersion is a necessary step
The authors appreciate programming assistance from John Bishop, David Welch and Buhong
Zheng, and helpful comments from Richard Butler, Ju-Chin Huang, Yasugi Otsuka, Steve Schmidt,
Ed Schumacher, John Scott, participants at an ECU seminar and two anonymous referees. Ross is
grateful to the Transportation Research Board’s Grad VII Award Program for ﬁnancial support. The
views expressed on this article are solely those of the authors and should not be attributed to the
Federal Reserve Bank of Dallas or to the Federal Reserve System.
Here we are describing ﬁrst or second degree price discrimination which is characterized by
a monopolist extracting the maximum consumer surplus from a market by charging individual or
groups of customers, respectively, their reservation prices. Third degree price discrimination is a
different form not associated with market power and may easily occur in competitive markets. Third
degree price discrimination occurs when a ﬁrm is able to segment the market into different “types”
of consumers, i.e. senior citizens, children, students, etc. Given that ﬁrms can identify consumers
by type, it is possible to construct demand curves for different segments of the market and charge
consumers by type. Since our goal is to identify that price discrimination which results from market