All Economic Analysis is Counterfactual

In partial response to Cactus’s post, Megan McArdle offers the “look at those low air fares” defense of airline deregulation, going so far as to suggest:

I think it’s telling that complaints about deregulation of the airlines come almost entirely from three groups of people:

1) People who have no idea what they are talking about
2) Affluent people
3) People who fly a lot for work

The story being that (2) and (3) aren’t price-sensitive and other critics of deregulation are just know-nothings or whiners (or both).

Not so fast.

The conceptually correct comparison is not with 1978 airfares, but rather with whatever current airfares would be under a reasonable forecast of airfares absent deregulation but with whatever other changes would have happened anyway. Recall, Robert William Fogel was given his share of the Bank of Sweden prize in significant part for cementing this “counterfactual” (or ceteris paribus) analysis as the standard methodology of economic history.

This is a non-trivial matter for airfares as deregulation was implemented during an oil price spike, and its subsequent golden age to roughly 9/11/01 was a period marked by a very long decline in the real price of oil — not to mention cost-reducing technological change from sources such as cockpit automation and the deployment of high-bypass-ratio turbofans to the single-aisle airliners that are the workhorses of the U.S. domestic fleet. So not all of the secular airfare decline (or what’s left of it) is properly attributed to deregulation.

One source [PDF] suggests that deregulation accounted for around 60% of the observed fare-level decline to 1993 using the old CAB pricing formula as the benchmark, and that 30% of flyers paid higher fares under deregulation. Don’t get me wrong, this isn’t bad, and the liberal in me can’t help but say that taking money from airline investors and corporate travel budgets and turning it into air transportation for the middle- to upper-middle classes beats many other deregulatory outcomes (at until the system blows up). Still, it isn’t Pareto-improving, and by the standards of, say, repeal of the upper-income Bush tax cuts, the disaffected class is pretty big, though. We aren’t just talking about the “affluent” and ultra-frequent flyers.

Moreover, would-be Fogels looking for an icon-smashing result that may also be true could try to figure out whether modern systems of rate regulation would perform better than the late CAB. So once we consider what Barry Ritholtz amusingly calls “dedonics” (*) issues like service levels and qualities, the need to keep the industry somewhat stable until alternative modes of fast intercity travel are (re)developed, and so on, I submit that the true benefits of deregulation are at least a matter for careful study.

(*) It’s amusing even though it isn’t true that all quality adjustments in CPI are for quality improvements.