Read “American Airlines,” located in Chapter 24 of the textbook, Managerial Economics: A Problem Solving Approach. American Airlines announced a new pricing strategy that they believed would address concerns and benefit the company. Conduct further research on American Airlines’ value pricing. Analyze American Airline’s structure and decision to implement value pricing and discuss the following (750-1,000 words):
Discuss the decision behind American Airlines developing and implementing value pricing to gain more market shares.
Evaluate the impact competitors and additional economic factors had on the results of the value pricing strategy. What factors contributed to the advantages and disadvantages of this new pricing strategy.
Provide alternative recommendations to the value pricing strategy that would result in a different outcome when implementing the strategy.
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In1992,AmericanAirlines(AA),themarketshareleaderintheairlineindustry,announcedanewpricingstrategy ValuePricing.AAbelievedValuePricingwouldaddresscustomercomplaintsandhelpreverseoperat-inglossesbystimulatingdemand,increasingmarketshare,andreducingcosts.Americannarrowedthenumberofpossiblefaresfrom500,000to70,000byclassifyingeachintooneoffourclasses(firstclass,coach,discounted7and21daypurchase)andbeganpricingbasedonflightlength.Thesechangesresultedinlowerlistpricesforbothbusinessandleisuretravelers.AccordingtoAA,thepurposeofValuePricingwastocreate“simplicity,equity,andvalue”initsprices.Bysimplifyingthepricingstructure,AAwasstabilizingpricefluctuationsaswellasestablishingapricefloor.Thenewsystemsetfirmpricesbasedonrestrictionsandmilesflownandeliminatedanycorporatediscountprograms.Mostimportantly,AmericanbelievedthenewfarestructurecreatedthroughValuePricingwouldincreasevolumeontheirplanes(raisingloadfactors).AAbelievedValuePricingwoulddriveanincreaseinoveralldemandthroughitsefforttostimulatetravelandeconomicactivity.AmericanalsobelievedthesepriceswouldallowAAtoincreaseitsmarketshare.

Question:Isthispricingprogramlikelytobesuccessful?

Answer:AAfailedtoanticipateitscompetitors’reactionstothisnewpricingplan.HadRobertCrandall,theCEOofAAatthetime,understoodthelessonsofgametheory,adevastatingindustrypricewarmighthavebeenavoided.Instead,AApushedforwardwiththeplan,competitorsrespondedaggressively,andindustryprofitsplummeted.TheValuePricinginitiativewasabandonedwithinmonthsofitslaunch.Instead,Crandallshouldhavetriedastrategythatwaslesseasilymimickedbyhisrivals.