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Airlines Are Being Bailed Out Again, Here’s What Economists Think Will Happen Next

This article is more than 3 years old.

On Tuesday, ten airlines told the Treasury Department they would take funds from a $25 billion bailout as the industry faces the looming threat of bankruptcy amid global travel limitations due to the coronavirus pandemic. That bailout is sparking an inevitable debate about moral hazard—when a business engages in riskier behavior because it’s protected from the consequences—and the future of the airline industry.

The CARES Act, a $2 trillion federal stimulus package designed to keep the U.S. economy from sinking into a deep recession includes roughly $25 billion for airlines. After some back and forth about the terms of agreement American Airlines AAL , Delta, United, Southwest LUV and others agreed to take the money on the following conditions: Airlines will keep at least 90% of workers employed through September, they will return one-third of the funds they receive, suspend stock buybacks and dividends, and limit executive pay. The concessions are greater than some airlines were hoping to make, but the industry is struggling and access to cash is crucial as passengers avoid flying and demand refunds on previously booked flights. 

Aircraft occupancy is at dangerously low levels. Exactly one year ago, 2.6 million people passed through airport security on a single day. Yesterday, the TSA reported that just 95,085 were screened and boarded a plane in the U.S. Both Boeing BA and the NYSE’s Arca Airline Index have fallen 60% since late February and orders for more than 300 of Boeing’s jets have been canceled this quarter. Hundreds of planes have been grounded and United Airlines even said it would reduce its staff by 60% if government aid did not come through by the end of March. 

Despite the terms of the bailout critics argue that airlines may be getting too much and giving up too little. Nancy Rose, the economics department head at MIT, says bailouts need to include strict terms. “To give the big carriers tens of billions with no strings is to subsidize capital that was very well-compensated and imposes that cost on our kids and grandkids,” she says. “The insistence on something like warrants or equity for cash infusions seems quite sensible.” (Treasury would receive warrants to buy stock in the airlines under the current terms of the bailout.)

On April 9, Social Capital CEO Chamath Palihapitiya went viral when he told CNBC that the government should not be giving handouts to Wall Street hedge funds or billion-dollar corporations, suggesting that it should give Americans more cash directly. “What we’ve done is disproportionately prop up and protect poor performing CEOs, companies and boards,” said Palihapitiya. “The point is that the bankruptcy process isn't set up to drive layoffs,” he told Forbes, “but rather cleaning up balance sheets and corporate offices to get competent leaders and clean cap tables in place to run a business.”

Meanwhile, more than 200 top academics, led by Jonathan B. Berk, a professor of finance at Stanford GSB, issued a public letter condemning Washington’s plans to finance struggling corporations. “It’s outrageous,” says Berk. “It’s investors who are powerful and want to be bailed out.” The letter calls on Congress to offer relief to people before it does so for corporations. “Investors knew when they made their investments that they would have to weather a storm or two,” it reads. 

Berk believes airlines should be allowed to go bankrupt. He argues that bailouts help equity investors like Vanguard and Blackrock BLK (which both own large stakes in several airlines), but that Chapter 11 bankruptcy could keep airline workers employed while forcing the company to restructure debt. “People confuse bankruptcy with liquidation,” says Berk. 

A number of airlines have undergone bankruptcy proceedings and re-emerged, including Continental Airlines UAL which filed in 1983 and came out in 1986, then filed again in 1990 when oil prices skyrocketed following the Gulf War—the airline kept all 37,000 of its employees on the payroll. Both times, the airline continued to operate. When American Airlines filed for bankruptcy in 2011, it continued normal operations as well through its merger with U.S. Airways in 2013.

But that’s not always the case. Airlines have shed workers after bankruptcy and debt restructuring. Following the September 11, 2001 attacks, United Airlines filed for bankruptcy and emerged four years later after it shed 30% of its workforce and 20% of its fleet, despite receiving billions in government financing. Delta came out of its 2005 bankruptcy 19 months later with 6,000 fewer employees. “Airlines would still operate in bankruptcy, but the question is: What will they look like after bankruptcy?” says Arnold Barnett, a finance professor at MIT Sloan. 

Plus, the airline industry has a big problem even if it comes out of this pandemic financially unscathed. How will it convince passengers—or even its own employees—that it’s safe to fly again? Will they want to squeeze onto airplanes with hundreds of strangers in the aftermath of a deadly, viral pandemic? Delta announced earlier this month that it had stopped selling middle seats on its planes to keep passengers distanced. “If demand in five years is 60% of what it is now, I imagine we’ll have 60% of the airlines we have now,” says Barnett. “There may be fewer players in the industry because of the shakeout that will occur,” he adds.

Even with a bailout, Barnett says a bankruptcy is inevitable. “I don’t think the kind of [bailout] we have here precludes bankruptcies at all,” he says. “It lasts through September. When autumn comes, then what?”

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