At present, airline competition between the Scandinavian countries is regulated by an agreement among their governments that gives SAS a virtual monopoly on intra-Scandinavian air routes, and the deregulation of European airlines will clearly necessitate the renegotiation of this agreement.
In Discussion Paper No. 403, Research Fellow Victor Norman and Siri Strandenes focus on the Oslo-Stockholm route as a case study in order to assess the possible effects of free entry on intra-Scandinavian competition. They assume both that entry will in fact occur and that it will lead to effective competition on price and frequency.
They assess the consequences of competition by means of simulation exercises, using a model calibrated to actual data for demand and prices, and to estimates of costs for the route. They assume that potential travellers will make a trip if its gross value to them less the time cost of the difference between the desired and most convenient available departure times exceeds its price, that desired departure times and gross value are independent, and that there is a uniform distribution of passengers across desired departure times. They also assume that costs are a linear function of the number of flights and the number of passengers per flight.
They first calibrate the model parameters on the basis that SAS holds a monopoly, using estimates of prices and data on the numbers of flights and of full- and discount-fare passengers per flight. They then use this model to simulate the effects of entry into the market, assuming that the equilibrium number of firms and the number of new entrants are chosen exogenously, that there is no collusion, and that entry does not lead to clustering of departures at peak hours.
They assume that airlines perceive prices and the number of departures as the strategic variables in the market, and decide them simultaneously. Entrants have the same costs as SAS, and there are no other sources of strategic advantage. Consequently, in equilibrium, all airlines will charge the same prices and will have the same number of departures. They also assume that the route will continue to be served by DC9/MD80 size aircraft with a total capacity of 110, that their average utilization rate cannot exceed 80%, and that each airline will offer the largest number of flights consistent with positive marginal profitability.
Their results indicate that competition on intra-Scandinavian air routes could yield price reductions of 20-30% and total consumer gains equivalent to 30-50% of current expenditure on air tickets while losses in airline profits would be very much smaller, leaving the world with a net efficiency gain of 25-35% of initial consumer expenditures. These results are robust to variations in estimated costs, to different theoretical specifications of the simulated competition, and to whether SAS initially behaves as a monopolist or is constrained through government regulation.

Deregulation of Scandinavian Airlines: A Case Study of the Oslo-Stockholm Route
Victor D Norman and Siri P Strandenes

Discussion Paper No. 403, March 1990 (IT)