Southwest began offering cut-rate fares between Kansas City and St. Louis and was, once again, able to spur dramatic traffic growth. However, in the Kansas City-St. Louis market, traffic growth was not sufficient to generate added revenue. During the first 12 months of Southwest's operation in this market, traffic growth in the Kansas City-St. Louis route was from 428,711 to 722,425 passengers, an increase of 293,714 passengers, following an average one-way fare cut from $154.42 to $45.82. Again using the arc price elasticity formula, a market arc price elasticity of demand of only eP = -0.47 is suggested. With inelastic demand, Kansas City-St. Louis market revenue fell from $66.2 to $33.1 million over this period.
In considering these arc price elasticity estimates, remember that they correspond to each market rather than to Southwest Airlines itself. If Southwest were the single carrier or monopolist in the Kansas City-St. Louis market, it could gain revenues and cut variable costs by raising fares and reducing the number of daily departures. As a monopolist, such a fare increase would lead to higher revenues and profits. However, given the fact that other airlines operate in each market, Southwest's own demand is likely to be much more price elastic than the market demand elasticity estimates shown in Table 5.4. To judge the profitability of any fare, it is necessary to consider Southwest's revenue and cost structure in each market. For example, service in the Kansas City-St. Louis market might allow Southwest to more efficiently use aircraft and personnel used to serve the Dallas-Chicago market and thus be highly profitable even when bargain-basement fares are charged.
The importance of price elasticity information is examined further in later chapters. At this point, it becomes useful to consider other important demand elasticities.
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