Reference no: EM131497786

Question: Price Fixing in the Airways Crude oil prices increased rapidly in the 2004-2006 period, and the increase in fuel costs placed a burden on airlines. Airlines began to add "fuel surcharges" to air fares, adding a new instrument of price competition. British Airways (BA) contacted Virgin Atlantic Airways and began discussing the situation in 2004, and the discussions resulted in increases in the surcharge from £5 to £60 on return trans-Atlantic flights over the next 2 years. Virgin's legal department subsequently notified the United Kingdom's Office of Fair Trading (OFT) that the two firms had colluded to fix the fuel charges. Virgin was taking advantage of a "leniency policy" included in the Competition Act of 1998, that provides immunity to firms that reveal illegal competitive activities. The objective of the leniency policy was to provide an incentive to disclose wrongdoing. In response to Virgin's disclosure BA admitted guilt and established a £350 million reserve for fines. Two BA executives resigned as a result of the price fixing.

The European Union was also conducting an investigation of the price fixing and could levy substantial fines. BA cooperated fully with the OFT, and stated that its policy was "to conduct its business in full compliance with all ... the laws." As a result of its investigation in 2007 the OFT fined BA £121.5 million, the largest civil penalty it had ever imposed.33 Simon Williams, director of cartel operations for the OFT, said, "Had BA not made admissions and cooperated from the outset, they would have been fined many millions of pounds more tens of millions of pounds."34 Philip Collins, the head of the OFT, said the fine would "send an important message about our intention to enforce the law."35 Ryanair CEO Michael O'Leary commented, "The fuel surcharges levied by British Airways and Virgin Atlantic are just their latest price-fixing scam. The flag-carriers have been price fixing for years ...."36 Ryanair had not added fuel surcharges. 33The maximum fine allowable under European Union law was 10 percent of sales. 34Reuters, August 1, 2007. 35The Economist, August 4, 2007. 36Daily Mail, August 4, 2007. A few hours after the OFT announced the fine, in a case filed by the U.S. Department of Justice, a court imposed a $300 million fine on British Airways, the second largest fine ever imposed in a DOJ case.

The fine also covered a separate case in which British Airways and Korean Air Lines admitted to fixing prices and surcharges on air cargo flights.37 Korean Air Lines was also fined $300 million, and Qantas paid $61 million. The price-fixing conspiracy was exposed by Lufthansa AG, and Lufthansa and Virgin were notified that restitution would be required for customers even though the companies were conditionally accepted into the DOJ "corporate leniency" program. William W. Mercer of the DOJ said, "When British Airways, Korean Air and their co-conspirators got together and agreed to raise prices for passenger and air-cargo fares, American consumers and businesses ended up picking up the tab for their illegal conduct."38 Craig Kelly, a lighting manufacturer in Sydney, complained, "We just missed out on contracts of upwards of a million dollars because of price. It could very well have been the cartel margin that Qantas was ripping us off that was enough to push us over the edge and lose the contract."39 In addition to the fines by the antitrust authorities the airlines faced the likelihood of class action cases in the United States on behalf of customers who were overcharged because of the price fixing. Michael Hausfeld, a U.S. attorney, said he would be filing a representative action lawsuit in the UK to give consumers "the opportunity to recover that which was robbed from them."40

British AIrways CEO Willie Walsh said, "I want to reassure our passengers that they were not overcharged. Fuel charges are a legitimate way of recovering costs."41 Walsh also stated, "The activities that went on were in breach of the law and fines were established in accord with the guidelines. They could have been as high as $850 million but we cooperated fully with the investigation, which was the right thing to do."42 Walsh blamed the price fixing on "a very limited number of individuals within British Airways."43 In 2008 British Airways and Virgin Atlantic Airways reached a $200 million settlement in a class action lawsuit filed in federal court in the United States alleging price fixing on fuel surcharges. The plaintiff's law firm also had filed a separate class action lawsuit alleging price fixing on trans-Pacific routes. ¦ 43USA Today, August 2, 2007.

1. What were the incentives that led the airlines to fix prices?

2. Show how a leniency program can put price fixers in a prisoners' dilemma.

3. What procedures should be put into place to ensure that employees do not engage in price fixing?

4. How hard is it to conceal price fixing?