Cost Allocation; Cost Shifting In the last several years, airlines have succeeded in boosting profits by adding fees for previously free services such as in-flight snacks and meals, checked baggage,...

Cost Allocation; Cost Shifting In the last several years, airlines have succeeded in boosting profits by adding fees for previously free services such as in-flight snacks and meals, checked baggage, priority boarding, and other services. These fees have caused some shifts in customer behavior, as more airline passengers bring their own snacks on the airline and pack a smaller bag that is acceptable for “carry-on.” By using carry-on luggage, the airline customer can save $25 or more in baggage-checking fees. This situation has resulted in a cost shifting for passengers, airlines, and airport security. As the number of checked bags decreases, the cost of baggage handling for the airlines decreases (and revenues increase for those bags that are checked). In contrast, the costs and delays in security checkpoints increase as security personnel must check additional carry-on bags, causing delays for passengers and the need for additional security personnel to handle the increased number of carry-on bags. Transportation Security Administration (TSA) officials explain that there has been a “huge” increase in the number of carry-on bags. In response, the Department of Homeland Security has adopted an increase in the passenger security fee each passenger pays for each flight from $2.50 in 2011 to $5.60 effective July 21, 2014. Alternatively, as suggested by the U.S. Travel Association, TSA could simply require each airline to include one free checked bag as part of the ticket price. The airline industry has objected to this fee increase on the grounds that it “diminishes customer choice and competitive differentiation among carriers.”

Required 1. Explain the nature of the cost-shifting taking place currently in the airline industry. 2. What are the ethical issues, if any, in this case? 3. Explain how you think airlines compete, on cost leadership or differentiation, and explain whether the current “fees for services” approach is or is not consistent with the airlines’ strategy.