Worksheet – Aviation Economics
Professor Michael Fung Ka-yiu & Ms Celia Lam[1]
Aviation Policy and ResearchCenter
Suggested Answers
Name: SID:
- Mr. and Mrs. Pang would like to take a holiday trip to Taipei for five days. They plan to bring their son Peter with them. Peter is 10 years old and is studying Primary 4 now and it is the first time for him to travel overseas. In order not to let Peter miss any class, they can only choose travelling during school vacations.
Their friend, Paul, is working as an office assistant and would like to travel alone to Taipei over the weekend. Any weekends should be fine to him.
Answers to part (a) and (b) are omitted.
(a)Now, Mr. and Mrs. Pang decided to go to Taipei during the Christmas holiday from Dec 22, 2012 to Dec 26, 2012. Please check the lowest air ticket prices of Economy Class of round trip via Hong Kong Airlines’ website[2]or via Cathay Pacific Airways’ website[3] and fill in the details below:
Time period: Dec 22 – 26, 2012Name of the airline company:
Flight type: Round Trip
Cabin Class: Economy
Flight number:
Passenger / Airfares (+ taxes) in HKD / Quantity
Adult
Child
Total amount: _HK$______
(b)Paul is browsing the same website of online ticket booking. He would like to travel from September to December. In addition, he wants to fix the travel period for 5 days from Saturday to Wednesday the following week. Please search for Paul the required air ticket of Economy Class (with the lowest price) of round trip that has a ticket price lower than that for Dec 22 – 26, 2012. Please fill in the table below:
Name of the airline company:Flight type: Round Trip
Cabin Class: Economy
Time Period / Flight Number / Airfares (+ taxes) in HKD
Dec 22-26, 2012
(c)Some airline companies, e.g. Cathay Pacific Airways Limited, have different sub-classes for the economy class. Please list out all the sub-classes and the differences between them. Why would there be price differences between different sub-classes? Try to make a sensible guess.
Fare Family of Economy Class at Cathay Pacific Airways (data are retrieved at June 20, 2012 for a round trip from Hong Kong to Taipei):
Economy Special / Economy Core / Economy Standard / Economy FlexRebooking / HKD600 / Free of Charge / Free of Charge / Free of Charge
Cancellation / Before departure: HKD600
After departure: No refund / Before departure: HKD600
After departure: No refund / Before departure: HKD600
After departure: No refund / Before departure: HKD250
After departure: HKD250
Upgrade with Miles / / / /
Minimum Stay / 2 day(s) / 2 day(s) / 2 day(s) / No minimum stay
Maximum Stay / 7 day(s) / 14 day(s) / 2 month(s) / 12 month(s)
No Show Charge / HKD600 / HKD600 / HKD600 / No Penalty
Price Range / Least expensive / Second least expensive / Third least expensive / Most expensive
The less expensive is a sub-class, the more restrictions are imposed. For example, rebooking of a Economy Special ticket requires a payment of HK$600, while it is free for otherclasses. Passengers can stay at the oversea country for a maximum of 7 days only. Passengers travelling in Economy Flex have no minimum stay restriction and can stayabroad up to 12 months. Moreover, they will receive no penalty for not showing up.
(d)Paul knows Mr. and Mrs. Pang plan to buy the more expensive tickets, what keeps him from buying the cheaper tickets and resell those tickets to them?
Airline tickets are not transferable.
(e)Could you suggest three critical factors for the airline company to practise price discrimination of flight tickets?
(i)The airline company can separate customers into categories.
(ii)There exist different price elasticities of demand between different groups of customers.
(iii)The airline company has market power to influence prices and output in a market, and block resale of air tickets.
- In June 2011, The Airport Authority Hong Kong (AAHK) has released its Hong Kong International Airport Master Plan 2030 (MP2030)[4], outlining the future expansion plans of the airport. One of the plans was the construction of the third runway to increase the airport’s capacity in handling air traffic movements.
(a)(i) Please list out the determinants of aggregate demand and aggregate supply in the short run.
Determinants of AD curve are the “other things” (besides price level) that can cause a shift or change in demand.
AD: changes in consumer spending, investment spending, government spending and net export spending.
SRAS: changes in the labor force, productivity, input prices, technology, expected changes in the future price level, and legal institutional environment (business taxes and/or subsidies, government regulations).
(ii)Suppose the AAHK is carrying out the construction of new runway of the Hong KongInternationalAirport. According to AAHK, the construction needs an investment of HK$86.2 billion (in 2010 dollars) between 2016 and 2030[5].
What do you expect about the changes in aggregate demand? Please draw a diagram and explain.
Construction investment will shift the aggregate demand curveto the rightfrom AD1
to AD2as AAHK will hire a lot of engineers and construction companies and henceincrease the income of the economy as a whole.
(iii)During the construction period, approximately 97,000 job-years[6] are generated, mainly related to construction and engineering activities[7]. What would happen to the aggregate supply curve in the short run? Please draw on the diagram in part (ii) and explain.
During the construction period, higher demand on workers shall increase the nominal wages and expected inflation. The short run supply curve therefore shifts to the left from SRAS1 to SRAS2.
(iv)What will happen to the equilibrium price level and real GDP?
At equilibrium, the price level will increase from P1 to P2 while the change in real GDP is uncertain. The workforce 2/2012-4/2012 was 3.77 million. 97,000 job-years accounts for 2.5% of labor force, hence, the effect on wage rate may be minor. We expect the shift of SRAS is smaller than AD curve, meaning real GDP shall increase from Y1 to Y2 at equilibrium.
(b)(i)What are the determinants ofaggregate supply in the long run?
LRAS: changes in labor and capital stock supply, productivity of labor, and technology.
(ii)Please explain how tourism industries would be benefitted from the construction of a new airport runway.
The construction of a new airport runway will increase the maximum traffic capacity HKIA can handle. As a result, the efficiency of the airport will be enhanced; the occurrence of flight delays will be lowered and the flight frequencies to/from certain cities will increase. These factors shall attract more tourists coming to Hong Kong by air.
(iii)It is said that the developments of four economic pillars of Hong Kong (i.e. financial services, trading and logistics, tourism, and producer and professional services) rely heavily on air transport[8]. After the completion of the new runway, there should be decrease in delays and increase in efficiency in travels to and from Hong Kong. What would you expect about the potential changes in aggregate demand and aggregate supply curves in the long run? Please draw another diagram to explain.
Decrease in delays and increase in the efficiency in transportation can probably increase the capital stock and labor supply of the economy. Therefore, LRAS curve shall shift to the right, from LRAS1 to LRAS2. Moreover, the lower transportation costs of oversea products shall increase the demand of net export.AD curve will shift to the right, from AD1 to AD2.
(iv)According to part (ii) and (iii), what will happen to the equilibrium price level and real GDP?
At equilibrium, the movement of price level is uncertain. The real GDP will increase from Y1 to Y2.
- One of the main concerns about the expansion of the Hong KongInternationalAirport is pollution to the environment. According to AAHK, the air quality issues can be categorized into construction phase and operational phase. The operational phase issue involves “potential increase in air emissions from phased increase in aircraft movements and airport operations under the three-runway option”[9]. Suppose the government would like to impose a tax on passengers to combat the air pollution problem caused by increased transport.
(a)Pollution problem brought by air travel is one type of negative externality. Using a diagram, please show how the air pollution problem can lead to market failure.
The social optimum should be at point A, taking into account the social cost incurred by pollution. However, the market equilibrium is at point B, resulting in more air travels than the optimal level.
(b)On the same diagram, show how the passenger tax could lessen the pollution problem. Briefly explain.
After imposing tax on passengers, the demand curve (D1) will shift to the left (D2). The equilibrium quantity is Qs, passengerswill pay at Ps while the airline companies will receive P. Per unit tax equals Ps – P.
(c)Please state one difficulty in implementing the policy.
It is difficult to evaluate the social cost of air pollution brought by the increased air traffic. Therefore, it is hard to determine the tax amount imposed to passengers.
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[1] Comments and suggestions about this worksheet are welcomed. Please forward your comments to Celia Lam at .
[2] Website of Hong Kong Airlines:
[3] Website of Cathay Pacific Airways:
[4] Retrievable at
[5] Hong Kong International Airport Master Plan 2030 Summary, p.8
[6] A job-year is one person employed full time for one year.
[7] HKIA Master Plan 2030 Technical Report, p.191
[8] HKIA Master Plan 2030 Summary, p.2
[9] HKIA Master Plan 2030 Technical Report, p.165