Last week, Delta Air Lines made an announcement regarding changes to its SkyMiles program. These changes are aimed at making it more difficult for customers to earn status and take advantage of perks. Previously, status was determined by a combination of dollars spent and miles traveled, but now it will be based solely on dollars spent. This shift essentially transforms SkyMiles from a frequent-flier program to a program for big spenders. The Points Guy, a prominent travel-rewards website, even declared that he’s giving up on chasing airline status.
When even insiders in the points world are fed up, it’s evident that something is seriously wrong. Frequent-flier programs are just a symptom of a deeper problem plaguing the American air-travel industry. However, the blame ultimately falls on Congress.
In the late 1930s through the ’70s, airlines were regulated as public utilities by the Civil Aeronautics Board. The board determined which airlines could fly certain routes and how much they could charge. The goal was to establish fair prices for travelers while ensuring modest profits for airlines. In 1978, Congress passed a law that deregulated the airline industry, leading to the dissolution of the Civil Aeronautics Board. With the removal of regulations, airlines came up with new strategies to dominate the market. American Airlines was particularly aggressive and introduced discount fares to sell remaining seats. This move resulted in lower prices for last-minute travelers and increased revenue for American Airlines. However, it upset business travelers who paid higher prices for tickets purchased further in advance. To appease these customers, American Airlines introduced AAdvantage, a frequent-flier program that offered additional benefits. Other airlines followed suit.
Initially, frequent-flier programs were simple, similar to punch cards that rewarded customers with a free item after a certain number of purchases. However, three key changes transformed these programs into the complex systems they are today. First, in 1987, American Airlines partnered with Citibank to offer a branded credit card that rewarded cardholders with points for spending, redeemable for flights. Second, in the ’90s, airlines introduced various fare classes with differential pricing. This led to the third change when Virgin America realized that the amount spent on a flight, based on the fare class, was more important to their bottom line than the number of miles flown. In 2007, Virgin America introduced a loyalty program that rewarded money spent rather than miles accrued.
These shifts fundamentally transformed the airline industry, turning frequent-flier programs into vast points systems. Airlines now resemble financial institutions with their points-based operations alongside their main business of flying planes.
Here’s how the system currently works: Airlines create points out of thin air and sell them to banks with co-branded credit cards. Banks then award points to cardholders for their spending, profiting from swipe fees. Cardholders can redeem points for flights and other goods and services through the airlines’ e-commerce portals. This setup is highly profitable for airlines as they have no costs associated with points until they’re redeemed. Consequently, loyalty programs have become extremely lucrative. Delta’s American Express credit cards alone generate nearly 1 percent of U.S. GDP. In fact, Wall Street lenders value major airlines’ mileage programs higher than the airlines themselves. For example, United’s MileagePlus program was valued at $22 billion, while the company’s market cap was only $10.6 billion.
Is this a good deal for American consumers? It’s a complex question. Paying with points may seem like a free bonus, but credit-card-swipe fees increase prices across the board, meaning that points redemption is akin to a small kickback. Furthermore, consumers without points-earning cards end up paying higher prices without getting any benefits. Essentially, they subsidize the perks enjoyed by wealthier cardholders.
Similar to the Federal Reserve, airlines have the authority to issue their own currency in the form of points. They determine its value and how it can be spent. This contributes to the opaque and often unfair nature of the points system. While online analysts try to estimate the cash value of points, airlines can modify these values post-redeeming and change the redemption rules. Furthermore, airlines even sell points above their valued exchange rate, resulting in customers paying more for something with less value due to the difficulty in determining the true value.
Given this context, it’s no surprise that Delta is making changes. Shifting the focus from mileage to spending is a logical step due to the rise of various fare classes and the decoupling of mileage from revenue. Restricting benefits and increasing status requirements appear to be cost-spreading measures, considering the outstanding points that could be redeemed with 1 percent of GDP spending.
You might wonder how airlines can risk alienating their customers by devaluing loyalty programs. However, they aren’t concerned because the U.S. airline market is dominated by four major carriers that largely move in lockstep. In fact, American Airlines recently implemented a similar change to its mileage program. This lack of alternatives gives customers limited options.
This and other aspects of airlines evolving into quasi-banks highlights the failure of deregulation. Regulation was in place to ensure airlines operated as stable businesses and provided reliable transportation. Deregulation allowed airlines to pursue profits in any way possible, including entering the financial sector.
Proponents of deregulation made promising claims that airfare prices would decrease once airlines could compete freely. They argued that the industry would become less monopolistic as numerous new players entered the market, and its stability would be ensured without government-backed profitable rates. They also claimed that small cities would maintain service. In their minds, airlines were just like any other business, and free competition would magically solve all issues. Sadly, their predictions were largely inaccurate because air travel doesn’t function like a typical industry. There are barriers to entry, network effects, economies of scale, and high capital costs. The idea that any startup could successfully compete against the established incumbents was flawed from the start.
After a brief period of intense competition, the deregulated era quickly turned to consolidation and cost-cutting as many airlines went bankrupt or were acquired. Service quality continued to decline as airlines faced little competition and could disregard passengers by offering cramped legroom, frequent cancellations, and increasing fees. Furthermore, without mandated service, cities and regions across the country lost commercial air service, leading to significant economic setbacks. During crises such as 9/11 or the coronavirus pandemic, airlines, which prefer stock buybacks over building financial reserves, rely on massive government bailouts.
Contrary to popular belief, deregulation didn’t deliver on its promise of lowering prices either. Airfare did become cheaper in some cases, but it…
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