Question C1 [30 marks] Low-cost airlines have taken the world by storm, becoming

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Question C1 [30 marks] Low-cost airlines have taken the world by storm, becoming a permanent fixture of the air avel industry in recent years as demand for air travel surges The pioneer budget carriers up a market that was dominated by traditional carriers, by stripping their product to the bare minimum all economy seats, no free food, no free baggage allowance. This "unbundling" practice made it possible to fly for ridiculously low prices, and proved to be extremely popular especially for short-haul flights (with less than four hours of flight time) Assume that the short-haul air travel industry is monopolistically competitive, and is initially in a long-run equilibrium with only traditional carriers. Substantiate your answers with diagrams whenever you think it is appropriate (a) Explain what happens to short-haul airfares and the profitability of traditional carriers in the short run, when the demand for short-haul air travel increases. Describe how the entry of budget carriers might depress short-haul airfares in the long run. [8 marks] Now, consider the industry in the new long-run equilibrium with budget carriers (new firms) and traditional carriers (incumbent firms). Suppose that traditional carriers enjoy particular cost advantages; for example, as a result of their vast network, traditional carriers are able to engage in fuel hedging on a larger scale, so the price of oil that they face is constant even when the market price of oil varies. (b) Suppose there is an increase in oil price, which affects the cost of production. How would the oil price shock affect short-haul airfares and the profitability of budget a traditional carriers in the short run? In addition, how might the share of flights supplied by traditional and budget carriers in the industry change in the short and long run? [s marks] While budget carriers do not enjoy particular cost advantages like their traditional counterparts, they are known to be quite nimble. Consider the following three strategies that budget carriers have adopted in recent years. First, they have identified and secured p that are more fuel-efficient and have smaller capacities (such as the Airbus A320 and the Boeing 737) to their fleet. Second, they have introduced frequent flyer programs. T have aggressively pursued business travellers by introducing flexible ticketing complimentary seat reservations, etc,; some have even added a business class to their offering lanes hird, they (c) How do smaller and more fuel-efficient planes impact the profits of budget carriers? [ marks] (d) How would frequent flyer programs affect the profitability of budget carriers? [4 marks) (e) Why do you think budget carriers are pursuing business travelers? [4 marks)

Explanation / Answer

in short run the monopolistic competitive market their aare many buyers and sellers and they are producing similar products bt not identical in this market situation thier is a downward solpeing demand curve and here a pure monopoly exist. they can increased te demand by only decreasing money

in long run new firms can enter freely if they have the ability to acheive profit in sort run.new firm will attracted by the profit and enter in to the market witha imagination of making profit.entry of new firms will led to shift of demand curve to the left. and the feature of free entry and exist will help the producers to acheive normal profit

in monopolostic competitionboth in short run an long run ffir s can earn economic profit or prvent economic loss by producng the quantity where mariginal revenue equals marginal cost

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